UNIT – 2

NEGOTIABLE INSTRUMENTS

Syllabus:-

Meaning, definition, features, types of Negotiable Instruments, Meaning and features of Promissory
Note, Bills of Exchange.

Cheque: Meaning, definition, essentials of a cheque, parties to a cheque, types of cheque, Crossing of
Cheque, Types of Crossing; Endorsement; Meaning, features and kinds of endorsements.

Negotiable Instrument Meaning:

Negotiable Instruments is a transferable, signed document that promise to pay to a certain person or to
the bearer of the instrument, a certain sum of money at a future date or on demand.

Example : Cheque, Bills of exchange and Promissory notes.

Definitions of Negotiable Instrument:

According to Section 13 (a) of the Negotiable Instruments Act 1881, “Negotiable instrument means a
promissory note, bill of exchange or cheque payable either to order or to bearer, whether the word
“order” or “bearer” appear on the instrument or not.”

Features / characteristics of Negotiable Instruments:

The important features of negotiable instrument are:

1. Property: Negotiable instrument is the property like other valuable assets. The person for
whom the instrument is drawn is the holder and owner of that property.
2. Defects in Title: The holder in good faith and for value called the ‘holder in due course’ gets
the instrument free from all defects of any previous holder.
3. Payable to certain person: Certain person is a person whose name is mentioned in
negotiable instrument. The negotiable instrument instructs to pay only to the certain person.
4. Right: The holder in due course is not affected by certain defense which might be available
against previous holder, for example, fraud, to which he is not a party.
5. Payable to Order: All the negotiable instruments are payable to order which is expressed to
a particular person.
6. Payable to Bearer: The negotiable instrument is expressed to be payable to bearer when it is
blank endorsement. It specifies that the person in possession of the bill is a bearer of the
instrument which is so expressed payable to bearer.
7. Payment: A negotiable instrument may be made payable to two or more payees, or it may be
payable in alternative to one or two payees.
8. Consideration: Consideration is the concept of legal value in connection with contracts.
Consideration in the case of a negotiable instrument is assumed.

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 Types of Negotiable Instruments:-

A Negotiable instrument can be of the following types:

1. Promissory Notes .
2. Bills of exchange
3. Cheques
4. Certificate of deposit
5. Commercial Papers
6. Treasury Bills
1. Promissory Notes:-
A ‘promissory note’ is an instrument in writing containing an unconditional under-taking
signed by the maker, to pay a certain sum of money only to, or to the order of, a certain
person or to the bearer of the instrument.

Parties of Promissory Notes:

1. Maker or Drawer: Maker or drawer is the person who makes the promissory note and also
promises to pay.
2. Payee: Payee is the person for whom the promissory note is drawn and finally receives the
money.

Features or Characteristics of a Promissory Note:

The important features of a promissory note are:

i. Instrument in Writing: The promissory note must be in writing. Oral engagement or

promise is excluded.
ii. Undertaking to Pay: It is not necessary to use the word “promise” but the intention must
clearly show an ‘unconditional undertaking’ to pay the amount.
iii. Unconditional: It must contain definite and an unconditional undertaking to pay. Promise to
pay should be unconditional. A conditional instrument is invalid.
iv. Signed by the maker: The instrument must be signed by the maker thereof. Person must
sign with his consent. It should not only be a physical act but also a mental act with an
intention to sign.
v. Payable to certain person: The maker and payee of the instrument must be a definite
person. A note may be made by several people to bind them jointly. A promissory note cannot
be made by two persons. Two different people should fill in the role of a maker and payee.
vi. Certain sum of money: The maker of the promissory note promise to pay a certain sum of
money only.
vii. Payable on demand: The amount is payable on demand of payee.
viii. Stamping: Promissory notes are chargeable with stamp duty. An unstamped or stamped
promissory note is not valid, as evidence in court of law. No suit can be maintained upon an
unstamped promissory note.

2.Bills of Exchange:

A Bill of Exchange has been defined under section 5 of the NI Act as “an instrument in
writing containing an unconditional order, signed by the maker, directing a certain person to
pay a certain sum of money only to, or to the order of certain persons or to the bearer of the
instrument.”

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 A cheque is a special type of Bill of Exchange. It is drawn on banker and is required to be
made payable on demand.

Parties to a Bill of Exchange:

1. The Drawer: The person who draws a bill of exchange is called the drawer.
2. The Drawee: The party on whom such bill of exchange is drawn and who is directed to pay
is called the drawee.
3. The Acceptor: The person who accepts the bill is known as the acceptor. Normally the
drawee is the acceptor. But a stranger can also accept a bill on behalf of the drawee.
4. The Payee: The person to whom the amount of the bill is payable is called the payee.
5. The Endorser: When the holder transfers the instrument to any other person the holder
becomes the Endorser.
6. The Endorsee: The person to whom the bill is endorsed is called the endorsee.
7. The Holder: Holder of bill of exchange means any person who is legally entitled to the
possession of it and to receive or recover the amount due thereon from the parties. He is either
the payee or the endorsee. The finder of a lost bill payable to bearer or a person in wrongfull
possession of such instrument is not a holder.

Features or Characteristics of Bills of Exchange:

The important features of bills of exchange are as follows:

i. Instrument in writing: A bill of exchange must be in writing and may be in any language,
and in any form.
ii. Signed by the drawer: The bill must be signed by the drawer.
iii. Unconditional: It must contain definite and an unconditional order to pay. A conditional
instrument is invalid.
iv. Order to pay: The bill of exchange must contain an order by the drawer to the drawee to pay
under any circumstances.
v. Payable to a certain person: Bill may be made payable to two or more payees jointly or in the
alternatives.
vi. Certain sum of money: The sum payable may be ‘certain’ although it includes future interest
or is payable at an indicated rate of exchange, or is according to the course of exchange.
vii. Payable on demand: The amount is payable on demand of payee.
viii. Stamping: Bills of exchange are chargeable with stamp duty. An unstamped or insufficiently
stamped bill of exchange is not valid as evidence in court of law.

Various Kinds of Bills of Exchange:

1. Accommodation Bill
2. Fictitious Bill
3. Forged Bill

 Accommodation Bill:

Accommodation Bill refers to the bill of exchange which is endorsed by a reputable third
party called an accommodation party acting as a guarantor, as a favour and without
compensation.

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  Fictitious Bill:

Fictitious Bill refers to a bill of exchange in which the name of both the drawer and the payee
are fictitious i.e. imaginary, Such a bill cannot be enforced by law but it is good in the hands
of a holder in due course if it has been accepted by a genuine person.

 Forged Bill:

Forged Bill is a bill in which name of the drawer or the payee has been forged. Such a bill
cannot be enforced by law and does not hold good even in the hands of holder in due course.

3. Cheques

A Cheque is an instrument in writing, containing an unconditional order, drawn on a specified

banker, signed by the drawer, directing the banker, to pay, on demand, a certain sum of
money only, to a certain person or to his order or to the bearer of the instrument.

A cheque is a document or instrument that orders a payment of money from a bank account.
The person writing the cheque, the drawer, usually has a current account, or checking
account, where their money was previously deposited. The drawer writes the various details
including the money amount, date, and a payee on the cheque, and sings it, ordering their
bank, known as the drawee, to pay that person or company the amount of money stated.

4. Certificate of Deposit

Certificate of deposit is a negotiable financial instrument issued by a bank documenting

deposit; with principal and interest repayable to the bearer at a specified future date.

5. Commercial Papers

A Commercial Paper is an unsecured promissory note issued with a fixed maturity, short-term
debt instrument issued by a corporation approved by RBI, typically for the financing of
accounts receivable, inventories and meeting short-term liabilities. Maturities on commercial
paper rarely range any longer than 270 days.

6. Treasury Bills

A treasury bill is a kind of finance bill or promissory note issued by the government of the
country to raise short term funds. According to one categorisation, Treasury bills are ad hoc,
tap, and action bills. India has experimented with 91 days Treasury bills, 182 days Treasury
bills, 364-days Treasury bills, and two types of 14-days Treasury bills. The treasury bills are
purchased by foreign banks in India scheduled banks, National Co-operative Development
organisations, financial institutions, joint stock companies, DFHI and others.

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 Difference Between Promissory Note and Bill of Exchange:-

Promissory Note Bill of Exchange

 It contains a promise to pay.
 The liability of the maker of a note is
primary and absolute.
 It is presented for payment without
any previous acceptance by the
maker
 The maker of a promissory note
stands in immediate relationship
with the payee and is primarily liable
to the payee or the holder.
 It cannot be made payable to the
maker himself. The maker and the
payee cannot be the same person.
 In the case of a promissory note
there are only 2 parties. Viz,.the
maker (debtor) and the payee
(creditor).
 A promissory note cannot be drawn
in sets.
 A promissory note can never be
conditional.
 In case of dishonour no notice of
dishonour is required to be given by
the holder.
 It contains an order to pay.
 The liability of the drawer of a bill is
secondary and conditional.
 If a bill is payable some time after sight,
it is required to be accepted either by the
drawee himself.
 The maker or drawer of an accepted bill
stands in immediate relationship with the
acceptor and the payee.
 The drawer and payee or the drawee and
the payee may be the same person.
 There are 3 parties, viz, drawer, drawee
and payee, and any two of these three
capacities can be filled by one and the
same person.
 The bills can be drawn in sets.
 A bill of exchange too cannot be drawn
conditionally, but it can be accepted
conditionally with the consent of the
holder.
 A notice of dishonour must be given in
case of dishonour of bills of exchange.

Cheque

Meaning of Cheque:

A Cheque is an instrument in writing, containing an unconditional order, drawn on a specified

banker, signed by the drawer, directing the banker, to pay, no demand, a certain sum of money
only, to a certain person or to his order or to the bearer of the instrument.

Essentials Features or Characteristics of Cheque:

The main features of cheque are:

1. Cheque is an instrument in writing

A cheque must be in writing. It can be written in ink pen, ball point pen, typed or even
printed. Oral orders are not considered as cheques.
2. Contains an unconditional order
Every cheque contains an unconditional order issued by the customer to his bank. It does
not contain a request for payment. A cheque containing conditional orders is dishonoured
by the bank.
3. Cheque is drawn on a specified banker
A cheque is always drawn on a specific banker. Cheque book facility is made available
only to account holder who are supposed to maintain certain minimum balance in the
account.

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 4. Cheque must be signed by customer
A cheque must be signed by customer (Account holder). Unsigned cheques or signed by
person other than customers are not regarded as cheque.
5. Payable on demand
A cheque when presented for payment must be paid on demand. If cheque is made payable
after the expiry of certain period of times then it will not be a cheque.
6. Certain sum of money
The amount to be paid by the banker must be certain. It must be written in words and
figures.
7. Payable to a certain person or to the bearer
The payee of the cheque should be certain whom the payment of a cheque is to be made
i.e. either real person or artificial person like Joint Stock Company. The name of the payee
must be written on the cheque or it can be made payable to bearer.
8. Cheque must be duly dated by customer of bank
A cheque must be duly dated by the customer of bank. The cheque must indicate clearly
the date, month and the year. A cheque is valid for a period of 3 months from the date of
issue.

Parties to a Cheque:

There are 3 parties involved in every cheque or payment order:

i. Drawer: The person who gives the order (writes out the cheque).
ii. Drawee: the financial institution upon whom the cheque is drawn.
iii. Payee: The person or organisation named to receive payment.

Types of Cheque:-

Cheques can be divided into two, viz:

1) Open Cheque
 Bearer Cheque
 Order Cheque
2) Crossed Cheque
 General Crossing
 Special Crossing
 Double Crossing

1. Open cheque

An open cheque is a cheque which is payable at the counter of the drawee bank on
presentation of the cheque.

a) Bearer cheque: A bearer cheque is the one which is issued without the name of the
payee and the same can be enchased by any one. Bearer cheque is made payable to
the bearer i.e. it is payable to the person who presents it to the bank for encashment.
b) Order cheque; A cheque which is paid to a named person with the words or order.
After the payee’s name, showing that he or she can endorse it and pass it to someone
else if desired.

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 2.Crossed cheque

A crossed cheque is a cheque which is payable only through a collecting banker and not
directly at the counter of the bank. Crossing ensures security to the holder of the cheque as
the collecting banker credits the proceeds to the account of the payee of the cheque.

Types of Crossing of Cheque:-

Crossing can be classified into three categories: (i) General (ii) Special and (iii) Double
Crossing.

i. General Crossing:
Section 123 of the Act refers to general crossing as, “where a cheque bears across its face two
traverse lines with or without the words “and Co.” or any abbreviation thereof or the words
not negotiable, the cheque is said to have been crossed generally. “Where a cheque is crossed
generally, the banker on whom it is drawn shall not pay it otherwise than to the banker”
(Section 126). The payee may get the cheque collected through a bank of his choice.
ii. Special Crossing:
Special crossing implies the specifications of the name of the banker on the face of the
cheque. The object of special crossing is to direct the drawee banker to pay the cheque only if
it is presented through the particular bank mentioned.

In the case of special crossing the addition of two parallel transverse lines is not essential
though generally the name of the bank to which the cheque is crossed specially is written
between the two parallel transverse lines (Section 124).

iii. Double Crossing:

A cheque is specially crossed has to be collected through the banker specified in the cheque.
There is an exception to this for a special reason. If a banker, to whom a cheque is specially
crossed, does not have a branch at the place of the paying banker, he may cross the cheque
specially to another banker who acts as his agent for the purpose of collection of the cheque.
It is very important to include the words “as agent for collection” under double crossing.

Meaning of Double Crossing:

Double crossing is a form of special crossing of cheque under which two collecting bankers name
is mentioned between two parallel lines. One is the collecting banker of the payee and another
banker is the agent for collection of cheque. It is very important to include the words “as agent for
collection” under double crossing.

Specimen of Double Crossing

Union Bank of India

To

State Bank of India

“As agent for collection”

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 Endorsement

The word ‘endorsement’ in its literal sense means, a writing on the back of an instrument. But
under the Negotiable Instruments Act it means, the writing of one’s name on the back of the
instrument or any paper attached to it with the intention of transferring the rights therein. Thus
endorsement is signing a negotiable instrument for the purpose of negotiation. The person who
effects endorsements is called an ‘endorser’ and the person to whom negotiable instrument is
transferred by endorsement is called the ‘endorsee’.

Essentials Features of a Valid Endorsement:-

 It must be in the instrument

 It is better that endorsement in made in ink.
 It must be made by the maker or holder of the instrument.
 It must be signed by endorser.
 It must be completed by delivery of the instrument.
 It should be in the form of ordinary signature of the payee of endorsee.
 In case of illiterate a impression should be fixed.

Kinds of Endorsements:-

There are basically five types of endorsement. They are:

Endorsement means signing one’s name of the back of negotiable instruments like bills of
exchange a promissory note or a cheque with a view to transfer the Interest, right, property or title
in the instrument to another person.

1. Blank endorsement:

the endorsement in which the endorser merely signs his name on the back of the instrument without
mentioning the name of the person to whom the instrument is endorsed. In the case of an
endorsement in blank it means there will be no endorsee at all, only the endorser put his signature
and then the cheque become payable to bearer. It is also as known as general endorsement.

2. Full endorsement:

It is an endorsement in which the endorser writes not only his name, but also the name of the person
to whom the instrument is endorsed on the back of the instrument. The blank endorsement can be
converted into endorsement of full. Under section 49 of the negotiable instrument act, a holder of a
cheque endorsed in blank may convert the endorsement in blank may convert the endorsement in
blank into full, by writing above the endorser’s signature with a director to pay the instrument to
another person or his order.

3. Restrictive endorsement:

It is an endorsement in which the endorser restricts the further transferability in express words to
some specified person only. It prohibits or restricts further negotiation of the instrument or which
expresses that it is the only authority to deal with the instrument as directed. As an example if it is
written on the instrument “pay X only or pay X for my use or pay the contents to Mr. X only”.
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4. Conditional endorsement:

It is an endorsement which contains a condition made by the endorser. The endorsee can receive the
amount only on the fulfilment of the condition or events. For instance, pay Mr. Z, if he returns to
Bangalore.

5. Sans recourse endorsement:

Under this endorsement, the endorser frees himself from any such liability arising from the
dishonour of the instrument. For example pay Mr. X at his own risk.

6. sansfairs endorsement:

In this type of endorsement, the endorser makes it clear that no one should incur any expense on his
account in respect of the negotiable instrument.

7. Facultative endorsement:

In case of facultative endorsement, the endorser waives or surrenders his right to receive the notice
of dishonour by writing the words “Notice of dishonour waived” after writing the name of the
endorsee.

Legal Provisions Regarding Endorsement:

The legal provisions regarding endorsement are:

 The endorsement may be cancelled before delivery.

 It will be complete by delivery. It may be actual or constructive.
 The endorsement should be made for the full value of the instrument. If the value of the
instrument is partially cleared the endorsement shall be made for the balance amount.
 It is implied that the endorsement is made in the order in which it is shown on the face or
back of the instrument.
 Endorsement may be made on the back of the cheque or on the face of the instrument or on
a separate slip.
 It should be in writing and the endorser should sign the instrument.

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