Holder in Due Course - Negotiable Instruments

Sec. 52. What constitutes a holder in due course. - A holder in due course is a holder who
has taken the instrument under the following conditions:

(a) That it is complete and regular upon its face;

(b) That he became the holder of it before it was overdue, and without notice that it has been
previously dishonored, if such was the fact;

(c) That he took it in good faith and for value;

(d) That at the time it was negotiated to him, he had no notice of any infirmity in the
instrument or defect in the title of the person negotiating it.

PRESUMPTION HOLDER IN DUE COURSE

• Generally, every holder is prima facie a holder in due course

• Any one, therefore, who claims otherwise must prove that the holder in question acquired
the instrument with one or more of the conditions lacking

• Any holder proved to have taken an instrument with one of the

conditions enumerated lacking is not a holder in due course

ACQUISITION BEFORE THE INSTRUMENT IS OVERDUE

• The holder of the instrument must have become the holder before the instrument has
become overude

• Illustrations—

o One who has purchased 2 promissory notes without the necessary

indorsement on the part of the holder after payment thereof had already been
one year overdue and without having made inquiries about the solvency of the
makers cannot be considered as a holder in due course

o One taking past due paper is chargeable with notice of all equities
between the original parties but nbt with equities between intermediate indorsers

o If the instrument is overdue, it is also a notice that it has been

dishonored
WHEN INSTRUMENT IS OVERDUE

• When it after the date of maturity

• On the date of maturity, the instrument is not overdue and a holder

who acquires the instrument on that date is a holder in due course

• If the instrument is overdue, there might be something wrong with the instrument

AS TO ACCELERATED INSTRUMENTS

• When the instrument contains an acceleration clause, knowledge of the

holder at the time of acquisition thereof that one installment or interest, or
both, as the case may be, is unpaid, is notice that the instrument is overdue

AS TO INTEREST

• One who purchases in good faith an instrument upon which the interest is
overdue is a holder in due course

• But where by the terms of the instrument, the principal was to become due upon default
of the payment of instrument, then one who takes the instrument upon which
the interest is overdue is not a holder in due course

WHAT IS AN ACQUISITION IN GOOD FAITH?

• Good faith refers to the indorsee or transferee and not to the seller of the paper

• Taking in good faith means that he doesn't have any knowledge of fact which would
render it dishonest for him to take a particular piece of negotiable paper

MEANING OF HOLDER IN GOOD FAITH

• Holder without knowledge or notice of equities of any sort which could be set up against a
prior holder of an instrument

EFFECT OF FAILURE TO MAKE INQUIRY

• Ordinarily, failure to inquire after notice merely sufficient to cause a

person of ordinary prudence to make inquiry as to an infirmity in a negotiable
instrument and defect in the holder’s title, is not evidence of purchaser’s bad faith so as to bar him
from recovery

• TEST OF HONESTY—whether or not his purpose is dishonest?

WHEN FAILURE TO MAKE INQUIRY IS INDICIA OF BAD FAITH?

• Failure to make inquiry when circumstances strongly indicate defect, renders

the holder not a holder in due course

ACQUISITION FOR VALUE

• Where the holder gave no valuable consideration for the transfer of the instrument to him,
he cannot be a holder in due course

• Discounting of a negotiable instrument is still considered to be taking for value

EFFECT OF INADEQUACY OF INSTRUMENT

• Generally, lesion or inadequacy of cause shall not invalidate a contract, unless there has been
fraud, mistake or undue influence

• It may be an evidence of fraud

• An amount paid for an instrument if a trifling sum should be a red flag and may by itself
establish notice

ACQUISITION WITHOUT NOTICE OF DEFECT OF TITLE OR OF INFIRMITY

• The following may be chargeable with notice—one taking an

instrument which is overdue; and one acquiring an instrument for a grossly
inadequate consideration

GOOD FAITH MEANS LACK OF NOTICE OF DEFECT OR INFIRMITY

DEFECTS OF TITLE

• All those situations which at common law were known as equitable

defenses and also to cover those equities of ownership where there was breach of
faith in negotiation
• Examples?

o Acquisition of the instrument by fraud

o Acquisition of the instrument by force, duress or fear

o Acquisition of the instrument by unlawful means

o Acquisition of the instrument by for an illegal consideration

o Negotiation of the instrument in breach of faith

o Negotiation of the instrument under circumstances which amount to fraud

DEFENSES

• Include those common law defenses outside those covered in Section 55

• These include mistake, absence and failure of consideration covered in Section 28, minority
and other forms of incapacity, lack of authority of an agent

INFIRMITIES

• Things that are wrong with the instrument itself

• What are these?

o Wrong date inserted where the instrument is expressed to be payable at a fixed period after
sight is undated

o Filling up a blank instrument not strictly in accordance with the authority

given or not within authority given or not within the reasonable time, where it was
delivered wanting in a material alteration

o Filling up without authority an incomplete and undelivered instrument

o Lack of valid and intentional delivery

o Forgery

o Material alteration

MAY A PAYEE BE A HOLDER IN DUE COURSE?

• Yes, if he satisfies the requirements as set forth in Section 52

MAY A DRAWEE BE A HOLDER IN DUE COURSE?

• A holder refers to one who has taken the instrument as it passes along in the course of
negotiation towards the drawee and not the drawee, who, on the acceptance and payment of the
instrument, thereby strips the instrument of all negotiability and reduces it to a mere voucher or
proof of payment

Sec. 53. When person not deemed holder in due course. - Where an instrument payable on
demand is negotiated on an unreasonable length of time after its issue, the holder is not
deemed a holder in due course.

WHAT CONSTITUTES UNREASONABLE LENGTH OF TIME?

• Jurisprudence doesn't state an exact period, nonetheless, there is practically

no authorities hold that a reasonable time for negotiating a demand note could be extended beyond
a year

Sec. 54. Notice before full amount is paid. - Where the transferee receives notice of any infirmity
in the instrument or defect in the title of the person negotiating the same before he has paid the full
amount agreed to be paid therefor, he will be deemed a holder in due course only to the extent of the
amount therefore paid by him.

Sec. 55. When title defective. - The title of a person who negotiates an instrument is defective within
the meaning of this Act when he obtained the instrument, or any signature thereto, by
fraud, duress, or force and fear, or other unlawful means, or for an illegal consideration, or when he
negotiates it in breach of faith, or under such circumstances as amount to a fraud.

DEFECTIVE TITLE IN GENERAL

• In the acquisition or negotiation thereof

Sec. 56. What constitutes notice of defect. - To constitutes notice of an infirmity in the
instrument or defect in the title of the person negotiating the same, the person
to whom it is negotiated must have had actual knowledge of the infirmity or defect, or
knowledge of such facts that his action in taking the instrument amounted to bad faith.

NOTICE OF DEFECT IN GENERAL

To constitute a notice of defect or infirmity, the holder must have actual

knowledge either:

1. Of the defect or infirmity

2. Or of facts that his action in taking the instrument amounts to bad faith
ACTUAL KNOWLEDGE

• Actual knowledge is required and not mere suspicion, surmise or fear

TAKING AMOUNTING TO BAD FAITH

• Bad faith consists in guilty knowledge, or willful ignorance, showing a vicious or evil mind

• While mere suspicion is not enough, where there is knowledge of

suspicious circumstances, coupled with means of verifying them, taking the instrument
may amount to bad faith

Sec. 57. Rights of holder in due course. - A holder in due course holds the
instrument free from any defect of title of prior parties, and free from defenses
available to prior parties among themselves, and may enforce payment of the instrument
for the full amount thereof against all parties liable thereon.

RIGHTS OF A HOLDER IN DUE COURSE

1. He may sue on the instrument in his won name

2. He may receive payment and if the payment is in due course, the instrument is discharged

3. He holds the instrument free from any defect of title of prior parties and
free from defenses available to prior parties among themselves

4. And he may enforce payment of the instrument for the full amount thereof
against all parties liable thereto

LEGAL AND EQUITABLE DEFENSES

• The holder in due course is free from equitable defenses only

AN ALTERATION MAY BE A REAL OR PERSONAL DEFENSE. WHY?

• An alteration irrespective of original tenor, it can be enforced—real

• Irrespective of difference between original and altered tenor, can collect only
limited amount—personal
EQUITABLE OR PERSONAL DEFENSES

• Those which grow out of the agreement or conduct of a particular

person in regard to the instrument which renders it inequitable for him, though
holding legal title, to enforce it against the defendant, but which are not available against bona fide
purchasers for value without notice

LEGAL OR REAL DEFENSE

• Attach to the instrument itself and can be set up against the whole
world, including a holder in due course

• The right sought to be enforced has never existed or ceased to exist

• Defense against everybody

THE INSTRUMENT SUBJECT TO A REAL DEFENSE CAN STILL BE ENFORCED.

IT CANNOT BE ENFORCED WITH REGARD THE PERSON TO WHOM THE LEGAL DEFENSE
IS AVAILABLE.

BETWEEN WHOM DEFENSE CAN BE RAISED IN NOTES

• In general, the defense of want of consideration may only be raised

between immediate parties

• But this could be raised in the instance that the holder has notice of the want in
consideration

BETWEEN WHOM DEFENSE MAY BE RAISED IN BILLS

• The want or failure of consideration may be interposed in an action

brought by the payee against the drawer or by the indorsee against the payee
indorsing, or by the drawer against the acceptor, but not in an action between the payee and
acceptor

• In the latter case, the defense is available only if there is no

consideration received by the defendant for his liability and plaintiff must have given
no consideration for his title

WANT OF DELIVERY OF COMPLETE INSTRUMENT

• Where the instrument is mechanically complete and is not wanting in any material particular,
want of delivery is an equitable defense
• As against holders not in due course, it can be shown that no delivery was made, or that the
delivery was conditional or for a special purpose

• Where the instrument is stolen, the defense is also equitable

• But where the instrument is payable to order, it is a real defense—for the person would have
to commit forgery on the instrument

FRAUD IN INDUCEMENT IS A PERSONAL OR EQUITABLE DEFENSE

• Relates to the quantity, quality, value or character of the consideration of the instrument

FOR MISTAKE TO INVALIDATE CONSENT

• It should refer to the substance of the thing which is the object of the contract, or those
conditions which have principally moved one or both parties to enter into the contract

FRAUD IN FACTUM OR FRAUD IN ESSE CONTRACTUS IS A LEGAL DEFENSE

• This fraud exists in those cases which a person without negligence has signed an
instrument which was in fact a negotiable instrument but was deceived as to
the character of the instrument and without knowledge of it

• Essential element is that the maker or indorser, as the case may be, must have exercised
ordinary diligence and in no manner contributed negligently to the imposition

MINORITY IS A LEGAL DEFENSE ONLY AVAILABLE TO THE MINOR

WHERE THE CORPORATION IS ABSOLUTELY PROHIBITED FROM ISSUING ANY

NEGOTIABLE INSTRUMENT, THE PAPER CANNOT BE ENFORCED EVEN BY A HOLDER IN DUE COURSE

WHERE THE CONTRACT OR INSTRUMENT ITSELF IS MADE VOID BY STATUTE, THE

ILLEGALITY OF THE INSTRUMENT IS A REAL DEFENSE

Sec. 58. When subject to original defense. - In the hands of any holder other
than a holder in due course, a negotiable instrument is subject to the same defenses as if
it were non-negotiable. But a holder who derives his title through a holder in
due course, and who is not himself a party to any fraud or illegality affecting
the instrument, has all the rights of such former holder in respect of all

parties prior to the latter.

RIGHTS OF A HOLDER NOT IN DUE COURSE

1. He may sue on his own name

2. He may receive payment and if the payment is in due course, the instrument is discharged

3. He holds the instrument subject to the same defenses as if it were non-negotiable

4. But a holder not in due course who derives his title from a holder in due course and
who isn’t a party himself to any fraud or illegality affecting the instrument, has all the
rights of such former holder in respect of parties prior to the latter

THE HOLDER ACQUIRING FROM A HOLDER IN DUE COURSE HAS THE BURDEN OF
PROOF TO SHOW PREDECESSOR IS INDEED A HOLDER IN DUE COURSE

Sec. 59. Who is deemed holder in due course. - Every holder is deemed prima
facie to be a holder in due course; but when it is shown that the title of
any person who has negotiated the instrument was defective, the burden is on the holder to
prove that he or some person under whom he claims acquired the title as holder
in due course. But the last-mentioned rule does not apply in favor of a party who became bound on
the instrument prior to the acquisition of such defective title.

IN WHOSE FAVOR PRESUMPTION ARISES

• In order to be a holder, he must be in possession of the note or the bearer thereof

WHEN PRESUMPTION ACCRUES

• It is presumed that the holder acquired the note under all the
circumstances required under Section 52

• Before the presumption arises, he must prove that he is the holder of the instrument,
that is, that he is the indorsee in possession of the instrument, as it is payable to
order

WHEN BURDEN IS SHIFTED

• When it is shown that the title of any person who has negotiated the instrument was
defective, the burden is on the holder to prove that he or some under whom he claims,
acquired the title as holder in due course

THE PRESUMPTION IS NOT APPLICABLE WHEN THE HOLDER’S TITLE WAS DEFECTIVE OR SUSPICIOUS