Commercial Paper (DONE) Flashcards
(120 cards)
1
Q
Commercial Paper
A
Written instruments for the payment of money (Articles 3 and 4 of UCC)
Fundamental Issues:
- Person with possession of the instrument wants to get paid.
- Person obligated on the instrument does not want to pay.
- Person who paid the instrument now wants to recover the money from the person paid or someone else.
2
Q
What is a draft?
A
An order to pay money.
- three party instrument
Parties:
a) Drawer - person ordering payment
b) Drawee - person to make the payment
c) Payee - person to receive the payment
3
Q
What are the requirements for a check?
A
A check is a draft.
Requirements:
1) Financial institution is the drawee, and
2) Payable on demand
4
Q
What is a certified check?
A
An ordinary check which bank has accepted (agreed to pay)
5
Q
What is a cashier’s check?
A
A check where the drawer and drawee are the same bank. The person buying the check is the remittur.
6
Q
What is a teller’s check?
A
A check drawn by one back on another bank. The person buying the check is the remittur.
7
Q
What is a traveler’s check?
A
Demand instrument requiring counter signature by a person whose specimen signature already appears on the instrument.
8
Q
What is a remotely-created item?
A
A draft not signed by the Drawer but created with the drawer’s authority so that a third party can get paid from the drawer’s account at a bank.
The third party is usually a seller in an internet transaction or when you pay bills over the phone by giving creditor your checking account number.
9
Q
What are the elements determining negotiability?
A
1) In writing
2) Signed by maker or drawer
3) Unconditional promise or order to pay
4) Fixed amount
5) In money
6) No other undertaking or instruction included
7) Payable on demand or at a definite time
8) Contains words of negotiability
10
Q
What constitutes a conditional promise or order? (ARE NOT negotiable)
A
1) Express condition of payment (payment ‘if’..)
2) Promise or order “subject to” or “governed by” another record (not negotiable because conditioned on terms of contract, etc)
3) Incorporation by reference (obligations stated in another record)
11
Q
What does not constitute a conditional promise or order? (ARE negotiable)
A
1) Statement of consideration
2) Reference to another record (“as per” or “in accordance with” - negotiable because not conditioned on terms of K)
3) Incorporation by reference of items that would not hurt holder (rights regarding collateral, prepayment, acceleration)
4) Limitation of payment to a particular fund or source (payment from proceeds/profits/etc)
5) Countersignature (e.g., traveler’s check)
6) Consumer protection language (but prevents holder from being HDC)
12
Q
What is prepayment?
A
The right of the obligator to pay early
- an incorporation by reference that does not create a conditional promise or order
13
Q
What is acceleration?
A
The right of holder to get paid upon some event
- an incorporation by reference that does not create a conditional promise or order
14
Q
What constitutes a “fixed amount”?
A
Must be able to look at instrument and determine the principal amount due.
15
Q
What presumptions exist regarding interest in silent instruments?
A
A silent instrument bears no interest.
16
Q
What are acceptable ways in which interest can be stated in an instrument?
A
1) Amount of money
2) Fixed or variable rates
3) Reference to outside source (“$__ above prime rate”)
17
Q
What is the result of a reference to “interest” but fails to state an interest rate?
A
These are negotiable and the interest will be at the judgment rate.
18
Q
What are the requirements under the “In money” requirement for negotiability?
A
1) Authorized medium of exchange
2) Includes foreign money
3) Cannot be payable in goods or services
4) Words prevail over figures ($550 < five hundred)
19
Q
What are permitted undertakings or instructions that can be included as permissible additional promises?
A
1) Promises concerning collateral
2) Confession of judgment clauses (unenforceable under Texas law)
3) Waiver of law meant to benefit Obligor (maker/drawer)
20
Q
What is required to be “payable on demand or at a definite time”?
A
1) On demand (express statements/silent = demand instrument)
2) At a definite time (prepayment or acceleration allowed)
21
Q
What are the elements of the “contains words of negotiability” requirement?
A
1) Bearer language (leaves name blank)
2) Order language (“pay to the order of…”)
3) If both order and bearer language = bearer controls (“to the order of ___ or bearer” = bearer language)
22
Q
What determines someone’s status as a holder?
A
1) Physical possession of negotiable instrument
2) Good title
3) Endorsements by someone other than the maker, drawer, or acceptor
23
Q
What is the effect of a blank endorsement?
A
Created when no particular person is named to whom the instrument is payable.
Creates “bearer” paper, and anyone in possession of the check has the right to cash it.
24
Q
What is the effect of a special endorsement?
A
Created with a payee’s signature plus designation of new person to whom the instrument is payable.
Creates “order” paper = thus further negotiations will require the endorsement of the person to whom it was made payable.
25
What is the effect of a "for deposit or collection" endorsement?
It is a restrictive endorsement limiting what may be done with the instrument.
26
May a payee lacking capacity endorse?
Yes
27
What is the effect of a payee depositing a check into payee's account even without endorsing it?
The bank still becomes a holder, taking the check and depositing it into the account.
28
What are the elements of a "holder in due course" status?
1) Negotiable instrument
2) Holder
3) Authenticity not apparently questioned
4) Holder must pay value
5) Good faith
6) Without notice at time of instrument acquisition
7) Shelter rule - Transferee has rights of transferor
8) Burden of proof is on person claiming to be a HDC
29
What is the authenticity requirement for HDC status?
Instrument does not bear such evidence of forgery or alteration or is not otherwise irregular or incomplete as to call its authenticity into question.
30
What must the holder pay to trigger HDC status?
The holder must pay value for the instrument to deserve the special protection.
31
What is the good faith requirement for HDC status?
Honesty in fact (subjective), and observance of reasonable commercial standards of fair dealing (objective).
32
What is the "without notice" requirement for HDC status?
The HDC must take possession of the instrument without notice that the instrument is:
1) Overdue (the due date has passed)
2) Dishonored (instrument not paid upon proper demand such as a check marked insufficient funds)
3) Uncured default exists
4) Unauthorized signature
5) Alteration
6) Any claim
7) Any defense or claim in recoupment
33
What is the shelter rule?
Even if a holder does not qualify as HDC, the person may still have rights of HDC by shelter.
The transfer of an instrument vests in the transferee the rights that the transferor had.
HDC giving check to another person makes gives that other person HDC rights, but does NOT make them a HDC.
34
Who has the burden of proof in proving or refuting HDC status?
The person claiming to be a HDC has the burden of proof
35
What are some real defenses against the rights of a HDC?
1) Infancy (contract theory)
2) Duress voiding obligation
3) Lack of legal capacity
4) Illegality voiding obligation
5) Fraud in the execution
6) Discharge in insolvency (bankruptcy)
7) Omission of required consumer protection language
8) Statute of limitations
9) Payment to former holder
10) Alteration
11) Unauthorized signatures and forgeries
36
What is the "fraud in the execution"? defense for HDC status?
a) Signer lacked knowledge of the instrument's character or essential terms AND
b) Signer lacked reasonable opportunity to learn of the instrument's character or essential terms.
RESULT: Person lacked the intent to sign a promise or order to pay.
FACTORS: Signer's intelligence, education, business experience, and ability to read and understand English.
37
What happens when there is an omissions of required consumer protection language?
This is a real defense under the rights of the HDC.
If an instrument does not contain this language, the instrument is treated as if it actually contains that language and thus the issuer may assert against an HDC all claims and defenses that would have been available if the instrument had included the required language.
38
What is the statute of limitations for asserting a claim against a HDC?
Note: 6 years from the due date (not the issue date)
Unaccepted draft: Earlier of 3 years after dishonor or 10 years after issue
39
What is the "payment to former holder" defense?
The liability of a person obligated to pay on an instrument may be discharged by payment to a person who was formerly entitled to enforce the note unless the obligated party has received a proper notification that the note was transferred and that payment is to be made to the new holder (the transferee).
40
What defenses are a HDC always protected from?
Personal defenses, such as:
1) Failure of consideration
2) Breach of warranty
3) Fraud in the inducement
41
Who can take an instrument from a HDC?
No other claimant can take an instrument from a HDC. The HDC is a "perfect defendant".
42
What is the basis of liability in commercial paper disputes?
The primary basis on contract liability on an instrument is a person's SIGNATURE.
This also applies to agents of a principal who are authorized to sign.
43
What happens if an agent is not authorized to sign for the principal?
It is then a forgery; alleged agent is bound but not purported principal.
44
What is the effect of a drawer disclaiming liability?
Liability may not be disclaimed on a check, but may be disclaimed on other drafts.
e.g., "without recourse" on a check is not a valid attempt to disclaim liability
45
What causes secondary liability on a drawer?
Drawer liability only after two conditions are satisfied:
1) presentment of the check to a bank
2) dishonor (refusal to pay the instrument upon a proper presentment)
46
What is the order of liability for multiple endorsers?
Endorsers are liable to each other in the order of their signatures.
Sue prior endorses for payment. Liable to later endorsers.
47
When are endorsers liable?
Endorsers are only liable after three conditions are satisfied.
1) Presentment to maker or drawee of check within 30 days of endorsement
2) Dishonor
3) Notice of dishonor to endorser within 30 days of the dishonor
48
What is the effect of final payment on a check?
No further contract actions may be brought and the drawee bank may not recover on the check from the persons it paid unless there is a breach of a presentment warranty.
49
Who is liable when a forged indorsement is paid out?
The drawee who pays on a forged endorsement is liable to the payee for conversion.
Person suing in conversion must have received delivery of the instrument. No conversion action action if check never reaches payee because it was lost in the mail.
50
What is the effect of a drawer's death on the payment of checks?
General Rule: Drawee bank may continue to pay checks until it knows that the drawer has died and has a reasonable opportunity to act on that knowledge.
51
What is the effect of notice of death on the ability of a bank to pay on checks?
Drawee bank may pay for no more than 10 days after the drawer's death if the bank knows of the drawer's death.
BUT, if someone claiming an interest in the account requests that the drawee bank stop immediately, the drawee bank must comply.
52
What are accommodation parties?
Co-signers, sureties, guarantors.
A person who signs an instrument to lend his or her credit to another party but who does not receive any direct benefit, i.e., does not receive any of the borrowed money.
53
What is the purpose of using accommodation parties?
Accommodation parties are people with good credit (surety/co-signer) that allow accommodated parties (principal/debtor/obligor) with bad credit to borrow money from a holder (creditor/obligee).
54
What is the liability of the accommodation parties?
Creditor may collect the note from the accommodation parties without needing to attempt to collect from the accommodated parties first.
Example: Son would like to buy a car on credit but Auto Dealer is reluctant due to Son’s weak credit record. Son convinces Mother to co-sign the note and Auto Dealer sells Son the car. Mother is liable as an accommodation maker. Auto Dealer may collect the note from Mother and does not need to attempt to collect from Son first.
55
What is the effect of limiting liability of accommodation parties to guarantee of collection only?
The accommodation party may include express language limiting the contract to a guarantee of collection only. This limits the creditor from attempting to collect from the accommodation party until it first attempts to collect from the accommodated party.
Example: Son would like to buy a car on credit but Auto Dealer is reluctant due to Son’s weak credit record. Son convinces Mother to co-sign the note. Immediately before her signature, Mother writes “collection guaranteed only.” Auto Dealer sells Son the car. Mother is liable as an accommodation maker. However, Auto Dealer may not collect the note from Mother until Auto Dealer attempts to recover from Son or it is clear that Auto Dealer could not collect from Son (e.g., Son is bankrupt or has fled the country).
56
What is the accommodation party's right of reimbursement?
If the accommodation party (surety) pays the instrument, the accommodation party is entitled to reimbursement from the accommodated party (maker/indorser).
57
What are some ways to demonstrate accommodation status?
1) Express language
2) Anomalous endorsement: An endorsement by a person who was not the holder of the instrument is notice of its accommodation character.
Example: A check is payable to Paul. The first indorsement on the back of the check is Arthur. Arthur’s indorsement is anomalous because it is not in the chain of title. Accordingly, we can deduce that Arthur is an accommodation endorser.
58
What are warranties?
Implied warranties that arise automatically, and are created by transfer or presentment.
Possession of the instrument is not required to use a warranty.
59
Who makes transfer warranties?
The Defendant/Transferor who receives consideration.
Example: Law Firm pays Law Clerk with a check for $500 drawn on Texas State Bank. Clerk deposits the check into Clerk’s account at Octopus National Bank (ONB). ONB presents the check to Texas State Bank for payment and Texas State Bank pays. Clerk made transfer warranties to ONB when Clerk deposited the check.
60
Do transfer warranties arise in a gift situation?
No. The person transferring must receive consideration before the transfer warranties are implied.
61
To whom are transfer warranties made?
Plaintiff. Can be:
1) Immediate transferee, and
2) Subsequent transferees if transferor endorsed (endorsement not required for subsequent banks)
62
Who can never sue for breach of transfer warranty?
Drawees and makers.
These can never sue for breach of warranty because they get instruments presented to them, not transferred.
63
What are the transfer warranties?
1) Warrantor is entitled to enforce the instrument (warranty of holder status)
2) All signatures are authentic and authorized
3) No alteration
4) No good defenses against transferor (perfect plaintiff warranty)
5) No knowledge of insolvency proceedings (lack of knowledge relevant)
6) If remotely-created item, the person identified as the drawer authorized the item.
64
On what instruments can you disclaim transfer warranties?
Checks? - NO, cannot disclaim
Non-check? - YES, can disclaim ("without warranties")
65
When are presentment warranties made?
Presentment warranties are made on presentment of an instrument.
66
Who makes presentment warranties?
Defendant
1) Presenter, and
2) Previous transferors
67
To whom are presentment warranties made?
Made to parties who pay in good faith (maker, drawee, and acceptor)
Example: Law Firm pays Law Clerk with a check for $500 drawn on Texas State Bank. Clerk deposits the check into Clerk’s account at Octopus National Bank (ONB). ONB presents the check to Texas State Bank for payment and Texas State Bank pays. Clerk and ONB made presentment warranties to Texas State Bank.
68
What are the presentment warranties?
You make these when you cash your paycheck:
1) Warrantor entitled to enforce draft or obtain payment
2) No alteration
3) No knowledge of unauthorized drawer's signature
4) If remotely-created item, that person identified as the drawer authorized the item
69
Can both transfer and presentment warranty claims be made by a plaintiff?
NO. They are mutually exclusive. A plaintiff can only have one of these warranty causes of action, although a person might make both warranties.
70
How do you know whether the plaintiff should bring suit against the endorses for breach of warranty or for breach of the endorser's contract?
Determine the identity of the plaintiff.
Plaintiff is holder: Holder sues on the endorser's contract
Plaintiff is payor: Payor will sue for breach of warranty
71
When would a plaintiff sue on the endorser's contract?
When the plaintiff was the holder of the instrument, and the payor has not paid the instrument.
E.g., A check bounces or a promissory note is not paid by the maker.
72
When would a plaintiff sue for breach of warranty?
When the plaintiff was the payor of the instrument, and if the payor has paid and later discovers they should not have paid, they will attempt to sue the endorser for breach of warranty (transfer or presentment).
E.g., The check was forged or the note was altered.
73
How may a holder discharge obligation on the instrument?
By surrendering the instrument to the obligor, destroying it, or cancelling it (writing "void")
74
What is the effect of using instruments for underlying obligations?
1) Payment by certified check, cashier's check, or teller's check = underlying obligation is discharged as if person paid in cash
2) Using uncertified checks and notes = underlying obligation is suspended
- -- is check or note is later paid, it's discharged
- -- if check or note is dishonored, holder may sue on either instrument or underlying obligation
Example: Doris purchases a computer from Paula for $1,000 and writes Paula a check for the full amount. The check is stolen from Paula. Paula may not sue on the underlying obligation because the check has not been dishonored. Paula must sue on the instrument as a loss (see later cards)
75
What is required for a person to enforce an instrument not in their possession?
e.g., Original lost, inadvertently destroyed, or stolen
1) The person was entitled to enforce when loss occurred
2) Loss was not due to transfer or lawful seizure, and
3) Person cannot reasonably obtain the original
4) Protection for payor required (e.g., security or bond)
76
Can a bank charge a customer's account even if it creates an overdraft?
Yes.
77
May a bank pay a postdated check?
Yes, unless the customer gives bank a notice of the postdating which described the check with reasonable certainty.
78
How may a drawer (bank customer) stop payment on a check?
1) Must be in writing (oral unenforceable in Texas, but bank has discretion)
2) Must be dated, signed, and describe item with certainty
3) Valid for six months - can be renewed
79
What is a bank's defenses if it pay despite a stop payment order?
1) Stop payment order did not comply with requirements
| 2) "No Loss" defense - Customer would have to pay the check even if payment had been stopped`
80
Who can stop payments on cashier's and teller's checks?
1) Remitter CANNOT stop payment
| 2) Bank MAY stop payment, but then risks liability for expenses, lost interest, and consequential damages.
81
What does it mean to wrongfully dishonor?
Drawee dishonors a properly payable check
82
Who has standing to complain of a wrongfully dishonored check?
The drawer may bring action against the drawee for bounding a check it should have paid.
The payee may not sue the drawee bank even if the drawee bank should have paid the check and the drawer had sufficient funds to cover the check.
83
What damages are available for a wrongfully dishonored check?
The drawer may recover all damages caused by the wrongful dishonor such as the bounced check fee and expenses incurred defending prosecution for writing hot checks.
84
What are a drawee bank's defense for a wrongfully dishonored check?
1) Payment would overdraw the drawer's account
| 2) Check is more than 6 months old
85
May a bank honor a stale check that is more than 6 months old?
Yes, if it does so in good faith.
86
What is a "payment in full" check?
A check (or accompanying communication) on which the drawer conspicuously indicates that cashing the check acts as payment in full of an existing obligation which is unliquidated or subject to a bona fide dispute.
87
What is the effect of using a "payment in full" check?
The payment in full check operates as an accord and satisfaction if the payee cases the check.
88
What is the exception to a payment in full check acting as accord and satisfaction?
1) Payee returns the money within 90 days
2) Payee is an organization and has previously notified the drawer of a particular person or address to send payment in full checks.
89
What is essential when dealing with forgery?
Determine the identity of the person whose name was forged, because different rules apply based on the identity/status of the person whose name was forged.
90
What happens when a maker's signature is forged?
1) Alleged maker not liable, because the maker's signature does not appear on the note. (May later ratify)
2) Forger is liable, because the forger's signature (even if different name) appears on the note.
91
What happens when a drawer's signature is forged?
1) Alleged drawer is not liable
2) Drawee bank must recredit alleged drawer's account as check was NOT properly payable unless drawee bank has a defense.
3) Bank unable to pass on loss unless breach of presentment warranty
92
What is the policy for limiting presentment warranties available to a bank when the drawer's signature is forged on a check?
Normally, no presentment warranties will be breached; parties had a right to enforce the forger's obligations.
Forger is the real drawer because forger signed his signature, even if a different name.
Drawee takes the risk that drawer's signature is unauthorized unless present actually knew it was unauthorized.
Example: Fred steals Dan’s checkbook and forges Dan’s signature to a check payable to “Cash” for $200. Fred cashes the check at the Corner Grocery Store. Fred’s forgery of Dan’s name acts as Fred’s signature and thus Fred is LIABLE on the drawer’s contract. If the drawee bank does pay the check, it CANNOT recover from Corner Grocery because Grocery did NOT breach any presentment warranties unless it knew that Dan’s name was forged.
93
What is a bank's negligence defense to recrediting?
Drawer's negligence: If drawer's negligence substantially contributed to the forgery of the drawer's name, drawer may not raise the forgery claim.
Example: Dan leaves his signature stamp and his checkbook on the top of his desk when he leaves on vacation. Fred scoops up the stamp and checks and goes on a spending spree. When Dan returns and complains to his bank that the checks were not properly payable, the bank may defend on the basis that Dan’s NEGLIGENCE in leaving his signature stamp and checks out in the open substantially contributed to the forgery.
94
What is bank's "bank statement rule" defense to recrediting a forged check?
General rule: Customer (drawer) has duty to inspect bank statement and canceled checks in a timely manner and report forgeries to the bank.
If customer does not and bank can prove a loss beyond original mistaken payment (e.g., not catch forger), customer precluded from asserting a claim against the bank.
Example: Fred carefully removes one check from Dave’s checkbook and forges Dave’s name as drawer. The drawee bank pays the check and returns it with Dave’s February statement. Dave does not inspect this statement until July. Because one year has not yet elapsed, Dave may still recover the amount of the check from his bank in a not properly payable action unless his bank can prove that the four month delay somehow prevented the bank from catching and recovering from Fred.
95
When must a forged drawer's signature be reported to the bank?
Within one year, regardless of bank's or customer's negligence.
96
What is the "repeat offender" rule under the bank statement rule?
If the same person is forging a series of checks, the drawer must report the forgeries within 30 days of when the statement was available. If the drawer does not do so, the bank will not recredit the account for the subsequent forgeries by the same person.
Example: Fred carefully removes ten checks from Dave’s checkbook and forges Dave’s name as drawer. The drawee bank pays the first three checks and returns them with Dave’s February statement. The remaining seven checks are included with Dave’s May statement. Dave does not inspect either statement until July. Dave will be PRECLUDED FROM asserting the forgeries of the last seven checks because he did not report the original forgeries within 30 days of when he received his February statement. Dave may still be able to recover for the original three forgeries because the one-year period has not elapsed unless the drawee bank can prove it suffered a loss because of the delay.
97
What is the effect of a forgery of the payee's name?
1) Bearer paper: Since indorsement is not necessary to negotiate bearer paper, forgery of an indorsement is irrelevant.
2) Order paper: Forgery breaks chain of title and check is not properly payable. Accordingly, the drawer may demand that the drawee bank recredit the drawer's account as the check was not properly payable.
98
What are situations where a party is precluded from asserting forgery of Payee's name?
1) Imposter Rule: Drawer/maker estopped to deny validity of forged endorsement.
2) Fraudulent Endorsements by Employees: Payee estopped.
99
What is the imposter rule?
The issuer, maker, or drawer, will be estopped from denying the validity of a forged endorsement.
There are situations where the maker or drawer is deemed to have acted carelessly in issuing the check and thus to have contributed to the forgery.
Example: Paul pretends to be Mike. Dan draws a check payable to Mike and Paul forges Mike’s signature. Paul’s forgery of Mike’s name is EFFECTIVE and Dan is precluded from asserting the forgery in a not properly payable action against the drawee. Dan should have determined the true identity of the payee.
Example: Paul, the corporate treasurer, writes a check to Mike not intending Mike to receive the check, forges Mike’s name, and cashes the check. Paul’s forgery is EFFECTIVE and the corporation (the drawer) is precluded from asserting the forgery in a not properly payable action against the drawee. The corporation should have better supervised its treasurer.
(see more examples in lecture notes)
100
What is the Fraudulent Endorsements by Employees rule precluding the payee's forgery claim?
Payee estopped
If an employer entrusts an employee (or independent contractor) with responsibility with respect to an instrument and the employee makes a fraudulent endorsement, the endorsement is effective. Payee is estopped to assert the forgery.
Example: Dan hires Paul as a bookkeeper who is responsible for making Dan’s deposits. Paul takes a check payable to Dan, forges Dan’s indorsement, and cashes the check. The forged indorsement is EFFECTIVE because Dan entrusted Paul with responsibility with respect to the check. Dan will be precluded from asserting the forgery in attempting to recover from persons other than Paul.
101
What is a maker?
| delayed card
The promisor / person who promises to pay
102
What is a payee?
| delayed card
The promisee / person entitled to payment
103
What is a drawer?
| delayed card
Person ordering payment
104
What is a drawee?
| delayed card
Person to make the payment (also called the payor bank for checks)
105
What is the liability of a drawee (bank)?
1) Conversion liability to payee
| 2) Not properly payable liability to drawer
106
What is a drawee bank's liability to a payee?
Conversion liability.
Payee can sue the payor/drawee bank (as well as the depositary bank and non-bank converters) for conversion.
107
What is a drawee bank's liability to a drawer?
Not Properly Payable Liability
The drawer of a check can sue the payor/drawee bank since a check with a forged payee's name is not properly payable.
108
When is a drawee bank protected from double liability?
A successful CONVERSION action against drawee by payee will eliminate a drawer's NOT PROPERLY PAYABLE action.
109
What are a bank's defenses against conversion/NPP claims for paying out a forged check?
1) Imposter rule
2) Fraudulent endorsement by employee entrusted with check
3) Drawer's negligence
4) Failure to timely sue (must be within 3 years)
110
What is the statute of limitations for a drawer to sue drawee bank for conversion/NPP?
Drawer must sue within THREE years.
111
What is the liability of the presenter?
The drawee bank can sue the presenter and those prior to the presenter for beaching the presentment warranty of "entitled to enforce" (the forged endorsement broke the chain of title so no one could become a holder).
112
What is the liability of the transferor?
The presenter who loses to the payor for breach of presentment warranty of good title may sue entitles further up the chain for breach of the various transfer warranties of:
1) Entitled to enforce
2) All signatures authentic or authorized, and
3) No good defenses
Example: Dan issues a check payable to Paul from Dan’s account at Octopus National Bank (ONB). Tom steals Paul’s check, expertly forges Paul’s name, and deposits the check in Tom’s account at Texas State Bank. Texas State Bank presents the check to ONB for payment and ONB pays the check. Shortly thereafter, both Dan and Paul discover what happened and notify ONB immediately. ONB is liable either (1) to Dan for cashing a check which was NOT PROPERLY PAYABLE or (2) to Paul for CONVERSION Paul’s property. After paying either Dan or Paul, ONB will bring a claim against Texas State Bank for breaching the PRESENTMENT warranty of entitled to enforce (Texas State Bank had no right to enforce the check because the forgery prevented it from being a holder). Texas State Bank may then bring a claim against Tom for breaching the TRANSFER warranties of entitled to enforce, all signatures authentic or authorized, and no good defenses.
113
What is a claim of alteration?
Obligor does not want to pay because the instrument was altered.
114
What types of alteration are there?
1) Change in obligation: Any unauthorized change in an instrument that purports to modify the obligation of a party such as the amount, date, names of payees, or interest rate.
2) Unauthorized completion: Instrument is completed in an unauthorized manner which affects the party's obligation.
115
What is the effect of alteration on a holder in due course? (HDC)
1) Change in obligation: HDC may enforce for original amount
2) Unauthorized completion: HDC may enforce as completed.
Example (1): Mary issues a promissory note payable to Evans for $100. Evans expertly alters the note so it reads $1,000 and then sells it to Harold who qualifies as a holder in due course. Harold may enforce the note against Mary for $100. Mary has a real defense of alteration for $900, the raised amount.
Example (2): Mary signs a check but leaves the amount blank and hands it to Evans stating, “You may buy yourself a birthday present with this check but you may not spend more than $100.” Evans completes the check for $1,000 and transfers it to a bank which qualifies as a holder in due course. The bank may enforce the check against Mary for $1000.
116
What is the effect of alteration on a non-HDC?
1) Fraudulently made by holder = TOTAL discharge of obligor
2) Not fraudulently made = obligor liable under ORIGINAL terms
Example (1): Martin signs a promissory note for $100 payable to Evans. Evans expertly alters the note so it reads $1,000 and then tries to collect the $1,000 from Martin. Martin has NO liability on the note and is not even obligated to pay the original $100.
Example (2): Martin signs a promissory note payable for $100 to Evans. Evans leaves the note in his desk. Unbeknownst to Evans, the cable TV installer finds the note, expertly alters the note so it reads $1,000, and returns the note to the desk. Martin is still liable for $100, the original terms of the note.
117
What is the theory of nonpayment for an altered check?
The check is NOT PROPERLY PAYABLE.
118
What is a bank's negligence defense to paying out an altered check?
If the drawers negligence substantially contributes to the alteration, the drawer will be precluded from asserting the alteration.
Example: Dan draws a check for $10 payable to Arthur. The number “10” and the word “ten” are typewritten in the appropriate spaces on the check. A large blank space is left after the number and the word. Arthur uses a typewriter with the same font style and size to add the word “thousand” after the word “ten” and the figures “,000” after the number “10.” If the drawee pays the check, Dan may not be able to recover in a not properly payable action because his NEGLIGENCE in leaving blank spaces substantially contributed to Arthur’s ability to make the alteration.
119
What is the bank statement rule as a defense to a bank paying out an altered check?
The drawer must report alterations to the drawee within ONE YEAR.
Example: Dan draws a check for $10 payable to Arthur. Arthur makes an obvious alteration of the check raising the amount to $10,000. The drawee bank pays the check and includes it in Dan’s May 2013 bank statement. In July 2014, Dan reviews the statement and demands that the drawee recredit his account. Even though the drawee bank may have been negligent in paying the check with the obvious alteration, the drawee bank DOES NOT have to recredit Dan’s account because Dan reported the forgery after the one-year period.
120
What warranties can be sued on by a bank for an altered check?
Breach of presentment warranty of no alteration, and the presenting bank can sue up the chain for breach of the transfer warranty of no alteration.
