Payment System Outline

Chapter 1: Negotiability
Commercial Paper the law governing negotiable instruments What we are going to look at in this class: o What is a Negotiable Instrument? o A special document defined by law (a type of K) That allows the proper holder of such document To enforce payment regardless of any circumstances surrounding the underlying transaction that gave rise to the instrument Definition: An unconditioned promise or order to pay a fixed amount of money Components: Writing (3-103(a)(12) Signed (3-103(a)(8) Contain an Unconditional Promise or Order (3-106) For a fixed sum of money (3-104(a)) Payable on demand or at a definite time (3-108) Payable to bearer or to order (3-109) No other undertaking except promise to pay money (3-104(a)(3)) o Cant say that I promise to pay $2000 and move your refrigerator o The Process of Negotiation (transferability) o Rights of a Holder in Due Course o What defenses are and are not good against a Holder in Due Course (HIDC) o Liabilities of all of the parties who handle negotiable instruments o Holding a Negotiable instrument can potentially give you MORE rights than you would have under normal contract law o A special designation o This is why it requires adherence o Key things to Remember: o Whether document is negotiable instrument? And it o Must satisfy stautory requirements I. Types of Negotiable Instruments A. Note written promise to pay money btwn 2 parties (promise to pay); Remember Two Parties only (Maker- person promising to pay & Payee- person designated to receive money) 1. Certificate of Deposit (CD) note written by a bank 2. Promissory Note a. This does not include IOUs B. Drafts written order by one person (drawer) to another (drawee ex: banks) directing the latter to pay money to a 3rd person (the payee) (order to pay); Remember that there are three parties: Drawer, Drawee, & Payee

1. Check a draft written on a bank and payable on demand 2. Cashiers Check check drawn by a bank on itself (3-104(g)) a. Remitter person who purchases an instrument (often a cashiers check) from its issuer if the instrument is payable to an identified person other than the purchaser (originator of a cashiers check) i. Problem 1 (1) Facts: Portia gives used car seller a cashiers check, with the seller being named as payee. What is the name that the Code gives to Portia in this situation? See 3-103(a)(15) (2) Answer: Portia is the remitter. 3. Tellers Check check drawn by one bank on another bank C. Three Basic Principles 1. The paper itself is the equivalent of the claim or the debt that is owed 2. A good faith purchaser is entitled to payment w/out worrying about defenses 3. You are liable on the instrument if you sign it. Signatures are key. i. Article 3 applies to negotiable instruments; non-negotiable instruments are governed by the laws of Contracts and assignability II. Negotiability Concept A. In General 1. First Q to ask yourself when dealing with a problem involving commercial paper: Is this instrument technically negotiable? a. The 3-100s are describing a negotiable instrument b. IF not a negotiable instrument Cant be a HDC i. Nonnegotiable instruments are merely a K 2. Article 1 pertains to the entire UCC B. Elements of a Negotiable Instrument 1. Writing written on anything; cannot be oral; cannot be in electronic form a. Can be written on anything i. Ex: IRS guy writes on shirt 2. Signed a. Signed by the maker of the promise; signed by the drawer if it is a draft b. Signed = i. any symbol executed or adopted by a party w/a present intention to authenticate the writing; intention to adopt or accept (location does not matter as long as on body) (1) A maker or drawer does not become liable for unauthorized signatures unless they ratify it. The forger is liable until then. (2) The symbol may be printed, stamped, or written; it may be by initials or by thumbprint ii. The maker or drawer is bound even if he signs with an assumed trade name (1) Ex: Alice Wonderland is sole proprietor of Carrol Book Store and signs pall of the stores checks Carrol Book Store. Wonderland is bound on the checks just as if she had signed her own name.

iii. Problem 2 (page 6) (1) Facts: A guy signs all of his checks with a small branding iron that prints a fancy X on the signature line. Are the checks negotiable? See 1-201(37) (2) Answer: Yes. He had the present intention to adopt or accept (intention to authenticate). Also, a complete signature is not required. The symbol may be printed, stamped or written; it may be by initials or by thumbprint. (3) The Q is always: Whether the symbol was executed or adopted by the party w/present intention to adopt or accept the writing iv. Problem 3 (page 7) (1) Facts: W, a sole proprietor, signs all of the stores checks by writing the stores name on the drawers line, but the checks are drawn on his personal checking account. Can the bank treat the check as if W had signed his own name? See 3-401(b) (2) Answer: Yes. He had the intention to adopt or accept the writing. A signature may be made by the use of any name, including a trade or assumed name adopted by a person w/present intention to authenticate a writing. c. Allonge signature on an accompanying sheet of paper. Must be affixed to the instrument (considered part of the instrument). A staple is sufficient; paper clip is iffy 3. Unconditional a. Exceptions to the Unconditional Rule - 3-106(b) (c) i. Reference to another record for stmt of rights w/respect to collateral, prepayment, or acceleration (1) Rationale: Prepayment and acceleration help the person holding the instrument get paid early. Thus it doesnt harm in making the holder examine other insruments to see when this will happen. ii. Payment is limited to a particular fund or source iii. Countersignature by a person whose signature appears on the promise or order is required (Travelers Checks) iv. Conditional v. Unconditional Promises (1) Conditional (Non-negotiable): (i) Express Condition, (ii) Subject To, Governed By (iii) Rights states in another writing (The rights of the parties with respect to this note are stated in the K signed b the parties on June 1. (2) Unconditional (negotiable):

(iv)Implied Condition (I promise to pay 10K for Whiteacre), (v) Reference to another writing (This note is executed in accordance with the K signed by the parties on June 1), Ex: Date, I promise to pay $500 as per contract I signed today with Honest John, Signature. (vi)Discription of Consideration (In consideration of Owners promise to convey Whiteacre to me, I promise to pay.), (vii) Rights regarding collateral, prepayment or acceleration (The rights of the parties to this note regarding prepayment and acceleration are governmed by the K signed by the parties on June 1) Ex: Date, I promise to pay bearer $500 on January 1, 2010. For rights as to prepayment and acceleration, see the contract signed September 25, 2005, between the maker and the payee (Signature) (viii) Statement of Security (this note is secured by a security interest in collateral described in a security agreement dated June 1 Ex: The collateral for this note is a security interest in the makers art collection; for rights and duties on default, see the security agreement signed this day creating the security interest. b. Implied Conditions irrelevant; must be an express condition to destroy negotiability (see pg 7 for example) i. Triffin v. Dillabough (1) Facts: American Express, money order seller, refused to pay the face value of money orders that had been stolen from one of its agents. (2) Holding: the money orders were negotiable instruments, even though AE placed a legend on the back of the orders providing that they would not be paid if stolen, the legend was simply a restatement of its statutory defenses (ineffective against a HDC) and the wording did not constitute conditional of payment. Court also held that Triffin, the commercial discounter, had the status of a HIDC because he stood in the

shoes of his assignor and, therefore, was entitled to recover the face amount of the money orders from AE. c. Consideration Stated (3-106(a)) i. Negotiability of an instrument must be clear on the face of that instrument; should not have to look outside of the instrument ii. An instrument that is subject to something, is non-negotiable iii. Problem 4 (1) Non-negotiable have to look outside the instrument; the holder of a negotiable instrument should not be required to examine another doc to determine rights w/respect to pymt; subject to destroys negotiability; Subject To makes it conditional (2) Negotiable Can reference another doc; dont have to look at K for pymt. 3-106(a)(iii); can mention it, but not make it subject to; as per and in consideration of are okay; as per is more controversial. (3) Negotiable Can reference another record for a stmt of rights w/respect to collateral, prepayment, or acceleration. 3106(b)(i) iv. Problem 5 (1) Facts: Whenever it mails out a check, company A marks it Void After 90 Days. Is it technically negotiable? (2) Answer: No, the 90 days is a condition; however, this is universally accepted v. Problem 6 (page 6) (1) Facts: Note has clause re: collateral. (2) Answer: No, this does not destroy negotiability. 3-106(b) (i); Can refer to collateral Paragraph 3: Many notes issued in commercial transactions are secured by collateral, are subject to acceleration in the event of default or are subject to pre-payment 4. Promise or Order to Pay a. Cannot just be an acknowledgment of a debt (an IOU); must be a direction for someone to pay 5. Fixed amount a. Must be able to determine the principal amount due i. Can be a set amount or one that can be mathematically calculated ii. Allows for fixed or variable interest rate (1) The promissory Note stated that the rate of interest was 2% above the prime rate as of the date of maturity. (ix)Negotiability not destroyed; 3-112(b) allows for interest to be included in a negotiable instrument and also allows for the interest calculation to be based on information outside of the instrument

iii. Allows for statement with interest but giving no interest rate state judgment rate will be used b. Interest can be variable; if amt isnt stated, the judgment rate will be used c. Problem 7 i. No, this does not destroy negotiability. 3-112 states that an instrument may require reference to information not contained in the instrument. If interest is provided, but not ascertainable, then interest is payable at the judgment rate (fixed by state statute) in effect in the place of payment; if interest not mentioned, then no interest (1) 3-112(b) Interest may be stated in an instrument as a fixed or variable amt 6. Money a. A govt authorized currency; foreign or domestic 7. No other undertakings/instructions/promises a. The instrument must not be burdened w/anything other than the simple and clean unconditional promise or order (to pay money) b. 3-104(a)(3) specifies a few additional items that may be mentioned c. Permitted Undertakings: i. Undertaking to give, maintain, or protect collateral ii. Authorization to confess judgment or realize on or dispose collateral iii. Waiver of the benefit of any law intended for the advantage or protection of the obligor iv. Promise to pay the costs of collection or attys fees d. Problem 8 (page 18) i. Non-negotiable have to go outside the instrument; there is an additional undertaking of accepting the contract of sale 3-104(a)(3); if the writing requires an additional undertaking other than the promise to pay money this goes outside; Adding additional obligations such as accepting a contract for sale, places more baggage on that document (1) Ex: Maker agrees that signing this note also indicates acceptance of the contract of sale for which it is given ii. Negotiable are allowed to protect collateral; 3-104(a)(3)(i) allowed to have additional collateral iii. Negotiable the note can authorize the holder to confess judgment on the maker 3-104(a)(3)(ii); confession of judgment clause common in promissory notes this doesnt give up a lot of rights b/c they wouldnt have a defense most of the time anyway; if the lawyer can do it, then the atty should be able to iv. Negotiable - 3-311; a full payment check; an argument can be made that negotiability is destroyed, b/c it is an additional instruction; If a full pymt check is cashed by a business, then it does not settle the bill should send the check to a different office than normal; If you cash a full pymt check by accident, then can undo it w/in 90 days by

giving the money back to the person; If you cash a full pymt check knowing, then you have settled the debt [ex: sending check to sm. business as opposed to a large co.]; Would not be deemed an additional undertaking on the one obligated to pay so it does not destroy negotiability; the clause here is an additional undertaking by the payee; not the drawer of the draft; the drawers only undertaking is to pay money (1) 3-311 makes us aware v. Negotiable 3-104(a)(3)(i) it is an undertaking to give collateral, so okay; (1) Most promises in connection with the collateral are broadly authorized by section 3-104 8. Payable On Demand or At a Definite Time a. Future point in time has to be certain: No ambiguity; have to know with certainty when that date is to come b. If not dated, it is treated as payable on demand (3-108 and 3-113) c. Must be able to tell when the instrument comes due, whether it has a date on it or it is payable on demand d. Payable on Demand you can collect any time you want, w/out even a good faith effort e. Ask: At the time it was issued, was there a definite date and was it payable on demand i. If not dated, then it is payable on demand f. Problem 9 i. Payable 30 days after sight:Not destroyed; it is negotiable. 3108(b); Sight 30 days after it is presented to the maker/after the maker sees it; acceptance is to a draft as sight is to a note; A promise or order is payable at a definite time if it is payable on elapse of a definite period of time after sight ii. Promissory Note with Missing Dates:According to teacher it did destroy negotiability. 3-115; Official Comment 2; Ct said not a negotiable instrument; not payable at a definite time b/c the dates are missing; however, statute shows differently: (1) If filled in with an agreeable date, then payable on that date-(definite time) (2) If filled in with a date not agreed upon, then another section governs this case iii. Payable on November 8, 2010, but the holder may demand payament at any time pror thereto if he deems himself insecure Not destroyed; it is negotiable. 3-108(b) (ii) and 3-104 (Good faith obligation) (1) Subject to acceleration clauses in NI that are otherwise payable at a definite time; As long as the holder in good faith believes that the prospect of pymt or performance is impaired (1-309- option to accelerate at will; burden on one seeking enforcement)

iv. When the Sun comes up tomorrow: (1) Could go either way; If dated, it is probably negotiable; if not dated, not negotiable (2) You can tell when the money is payable; dont need a date (3) Time is readily ascertainable. 3-108(b) (4) If we dont know the date it was issued, then we dont know when tomorrow is (5) if no date, then the date the note first comes into possession of a holder v. Payable on November 8, 2010, but if my potato crop fails that year, payament shall be extended until November 8 of the following year Not destroyed; it is negotiable. (1) Pymt can be extended automatically upon or after a specified act or event. 3-108(b)(iv) (2) Can be extended to another date as long as that date is certain vi. Payable on November 8, 2010, but the maker hereby reserves the option to extend the time of payment until he can pay without serious financial hardship; Destroyed, non-negotiable; pymt can be extended to a further definite time at the option of the maker (1) Here there is no definite time; you dont know when the maker wont suffer financial hardship if pymt is made (2) The time is not ascertainable vii. Payable 120 days after my rich Uncle Al dies; Destroyed, nonnegotiable; there is no definite time period in which the uncle will die; however, it is an event, but it is not for an extension of an already specified time (1) At the date of issue, a definite time was not ascertainable viii. Payable 100 years from today, but if my rich Uncle Al dies before this note is due, it shall become payable 10 days after distribution of his estate is made to his heirs. Not destroyed; it is negotiable. 3-108(c) and 3-108(b) (1) There is a set date, and then an acceleration (2) There is an outer limit defined (3) 3-108 (b) (ii) allows for acceleration ix. Payable on my next birthday Not destroyed; that is a definite time (1) The writers next birthday is a definite time and a specific date- payable on my next birthday would be fine (2) However, one should go ahead and specify to avoid ambiguity x. Note: Maker needs 2 dates (issue date and specific extension date); holder needs 1 date (date of issue) (1) Maker acceleration (2) Holder - extension 9. Payable To Order or To Bearer

a. Notes: I promise to pay for something in the future b. Drafts: Pay to the order of i. Checks are the exception and do not need words of negotiability c. A note and a draft can both be a bearer paper i. This means that the holder of that instrument, no matter wherever that person maybe, can present that note or draft for payment ii. A note or draft can be order paper as well (1) This means only that person has the right to present that instrument for payment d. to order to a representative i. It may be drawn payable to the order of the maker or drawer, the drawee, or a payee who is not the maker, drawer, or drawee ii. It may also be drawn payable to several payees, jointly or severally (to the order of Ben and Jerry, or either of them) iii. It may be drawn payable to the order of a partnership or other unincorporated association, or to the order of an estate, trust, or fund, in which case it is payable to the order of the representative of such entity iv. It may be drawn to a public officer or officeholder (to the order of the County Tax Collector or to the order of John Jones, Tax Collector e. to bearer to whoever holds the promise i. Bearer the holder of the paper; not any specific person; privity passed w/the physical delivery of the instrument; If I picked this check up, I could cash it, anyone could (1) An instrument is payable to bearer only if it is drawn payable to: (x) To bearer (xi)To a specified person or bearer (Ex: Pay to John Doe or bearer) or (xii) To cash or to the order of cash or (iv) any other indication that does not purport to designate a specific payee (Ex: Pay to the order or Happy Birthday) (2) Bearer v. Order (xiii) Bearer paper is not payable solely to an identified person (ii) Bearer paper is payable to anyone legimately possession the instrument (3) If an instrument is payable both to order and to bearer, bearer language controls (Pay to the order of John Jones and bearer) 9

(4) Con too negotiable; too much like money to be safe ii. Order to a specified person and to whomever that person further ordered the paper pd (1) Paid to the Order of John Smith; this is payable to Smith or whomever he orders as his nominee (2) Transferred by writing the name of the order on the back and then signing his/her name own name f. Problem 10 (page 23) Do following clauses in a promissory note create bearer paper? i. Pay to John Smith ; No, it does not create a bearer paper. There are no magic words (to the order of), so not a negotiable instrument; however, checks do not need to have the magic words (although most do) ii. Pay to the order of John Smith or bearer; Yes, it is a bearer paper if it is a check. It cannot be payable to both an order and bearer; so if says to the order of john smith or bearer bearer prevails 3-109. Official Comment 2. iii. Pay to Bearer; Yes, it is a bearer paper; No order language is necessary when the instrument is made payable to bearer iv. Pay to the order of Cash Yes, it is a bearer paper. OC2: to the order of cash = payable to bearer; 3-109(a)(3) v. Pay to a Merry Christmas Yes, it is a bearer paper. 3-109(a) (3) not payable to an identified person, so payable to bearer g. Problem 11; Do following clauses create order or bearer paper; or do they make the instrument non-negotiable for failure to create either i. Pay to the order of (blank); Payable to bearer b/c it doesnt state a payee. 3-115 OC2 (4th par); 3-109(a)(2); until its filled in, its treated as bearer paper ii. Pay to John Does estate Non-negotiable; 3-110(c)(2)(ii); Determines who can deal w/an instrument as a holder; the trustee or representative of the estate is the holder; Not negotiable b/c it should have the language to the order of and the statute was not intending to get rid of that language; should say pay to the order of John Does estate iii. Pay to the order of the President of the US; Order Paper. Payable to the Pres, the incumbent of the President, or a successor to the incumbent; 3-110(c)(2)(iv) (1) When instrument is payable to a certain office, the instrument is payable to the holder of that position or office iv. The drawer of a check drew a line through the words the order of that were printed on the check prior to the space for the payees name. Is the check negotiable as altered?; Yes its still Order. It is still a negotiable check. 3-104(c); OC2 (1) Stamp a check as Not Negotiable to make it nonnegotiable; Done to negate the possibility of a holder in due

10

course and prevent the instrument from being negotiable for any purpose; See section 3-104(d) (2) If the writing is check and you cross out pay to the order its still a negotiable instrument- this applies to checks only and not promissory notes 10. Consumer Notes a. If a consumer signs a promissory note in exchange for goods or services, then the note itself must have a Notice (taking subject to the consumers defenses) on it per a FTC regulation; b. Although an additional promise, it does not have it conditional; therefore, it is still negotiable per 3-106(d)

Chapter 2: Negotiation
I. Terms A. Notes 1. Maker the person who issues the instrument and promises to pay 2. Payee the person to whom the note is made payable B. Drafts (checks) 1. Drawer the person who creates the draft and orders the drawee to pay 2. Drawee the person to whom the drawer addresses the order of pymt (Bank) 3. Payee the person specified by the drawer as entitled to receive pymt C. Negotiability v. Negotiation 1. Is an instrument negotiable refers to form of the instrument; asks if the instrument is in the proper form to meet the technical requirements of negotiability; 3-104(a) 2. Has the instrument been negotiated refers to transfer; asks about the legal validity of the attempted transfer of the instrument a. Negotiation: a transfer of possession, whether voluntary or involuntary, of an instrument by a person other than the issuer to a person who therby becomes its holder. Section 3-201(a); Usually movement from initial payee to subsequent holder and so forth. D. Holder 1-201(21): the person in possession of a negotiable instrument that is payable either to bearer or to an identified person that is the person in possession someone entitled to enforce the instrument and its transfer 1. either by possession of bearer paper or by indorsement 2. Elements: a. A person in current Possession of bearer paper or a person in current possession of order paper where the negotiable instrument is payable to that person b. Then ask whether bearer paper or order paper? i. Bearer paper: requires transfer of possession only whether transfer was voluntary or involuntary ii. Order paper: issuer has given to a specific person ; so indorsement by proper party (3-204(a)) and transfer or possession to the person to whom the instrument was indorse 3. Holder in Due Course: 11

a. Definition: is a holder who takes the instrument for value, in good faith, and without notice that it is overdue or had been dishonored or is subject to claims or defenses against it i. A HDC takes the instrument free from the most defenses that the parties to the original transaction may have against one another ii. Precisely the reason why establishing HDC status is so important b. Elements of HDC: i. Must qualify as a holder (1) Have to have possession (2) Then look to see whether order or bearer ii. Cant know about any problems with the instrument (innocent)has to be oblivios; cant turn a blind eye(1) must be in good faith iii. Have to give something for it (Value) c. Staring Point of Analysis: i. Is it Negotiable Instrument? ii. Proper Negotiation? iii. Does he qualify as HDC? II. Transfer and Negotiation A. Three Stages of an Instrument 1. Issuance 2. Transfer a. Every legally significant movement of the paper btwn issuance and presentment b. Negotiation the physical transfer done to make the transferee a technical holder i. Negotiation of Order paper (1) Accomplished by (i) the indorsement by the proper person and (ii) delivery of the instrument ii. Negotiation of Bearer paper (1) Needs no indorsement; (2) delivery to the transferee is all that is required for the transferee to qualify as a holder (So all that is required is that the transferee have possession) 3. Presentment III.Special and Blank Indorsement A. If an instrument is made payable to the order of a specific person, there are two different ways the payee can indorse the instrument. 1. Blank indorsement 3-205(a); signing the back of the instrument without naming a new payee a. Converts the instrument into bearer paper 2. Special indorsement 3-205(c); write Pay (name of new payee) above the indorsement ( signed signature) on the back a. Preserves the order character of the instrument

12

b. Makes the instrument the sole property of the new payee, who becomes a holder as soon as the instrument is delivered, until that time, original payee can strike out the special payees name and do as they will 3. Exam Tip: Last VALID Indorsement always controls B. Problem 12 (page 30) 1. Order paper; H issues check to E E endorses and gives check to his W W transfers it to G G writes "pay to G" above E's signature and gives it to M M gives it to ONB ONB then present's it to H's bank (MNB) for payment H's bank endorses it. a. Drawer H; Drawee MNB; Payee E; Depositary Bank ONB i. Despository Bank: 4-105(2): the first bank to take an item even though it is also the payor bank, unless the item is presented for immediate payment over the counter b. Holders E, Wife, G, M, ONB i. When presented for payment, it is not a negotiation; therefore, drawee bank is not a holder ii. Also, the drawer of the draft is not a holder c. If E had failed to indorse the check, but simply deposited it in his account with ONB, would the bank have been a holder? Yes, the bank would have been a holder in that case. i. 4-205(1): the depository bank becomes a holder of the item at the time it receives the item for collection if the customer at the time of delivery was a holder of the item, whether or not the customer indorses the item. (1) It does not require a previous holders signature for banks to acquire holder status. Mere depositing of the check by bank customer affords the depository bank holder status. d. What was the legal effect of the language written on the check by Grocery store M? Special indorsement, which transferred the instrument and made the grocery store a holder i. Therefore Speedy was not a holder because it turned back into order paper. e. All names on back of the check are indorsers (3-204): E, i. Indorsement means a signature other than that of the makers, drawers, or acceptor (person making the check) ii. G, not an indorser because they didnt sign it and when they got it was bearer paper so they didnt have to iii. ONB- not an indorser- they signed but not for any of the reasons that would qualify them as an indorser. C. Problem 13: 3-110(d) Multiple Payees 1. If payable to Mary and Donald, then both must indorse and negotiate 2. If Mary or Donald, then either may indorse 3. If Mary, Donald, then either may indorse 4. If names are stacked, then either may indorse b/c it is ambiguous

13

a. If a person authorizes another person to sign their name, then they can sign and it is okay; authorization can be expressed or implied b. Again instrument is ambiguous as to is intent (payable jointly or alternatively) c. Example of case law used to interpret D. Problem 14: (page 31) 1. Facts: Portia Mort on check, when real name is Portia Moot a. She is still the holder of the check b/c it was intended to go to her 3110(a), regardless of whether her name was spelled wrong; she could sign either her real name or the name on the check, but a bank would probably make her sign the wrong name, then her real name. 3-204(d) E. Problem 15: 1. 3-204(a) the indorsement that is affixed to the instrument is a part of the instrument 2. Holding: the paper w/the endorsement, since it was just folded with the instrument, was not affixed. If you held up the paper, the indorsement would separate from the instrument. Stapling would be okay; gluing probably been okay; paper clipping maybe a. Thus any indorsements must either be properly noted on the instrument OR Properly affixed to the instrument *3-204 doesnt say that an indorsement has to be in a particular place on the check, although banks may want it in a certain place. IV. Forgery of the Payees Name A. If an indorsement is forged, then any person after that is not a holder, unless the forged signature was not necessary B. Problem 16 (page 32): 1. Facts: Laura received a check from her employer she did not indorse it a thief stole the check from her briefcase, forged her name and transferred it to an innocent party, Grocery store Grocery store tried to cash the check at the drawee bank and the bank alerted Laura and she arrived at the bank immediately. Can Laura retrieve the check from the Grocery store? 2. Yes, she can retrieve the check from Cornucopia Grocery; since the check was forged (wasnt a proper negotiation/transfer) before they got it, they are not a holder in due course, and defenses can be used against them; CG is subject to claim of the property by Laura; 3-306 C. Problem 17: 1. Lauras signature (blank endorsement) made the check bearer paper, the thief, upon delivery (even though involuntary delivery) is a holder; When the thief signed Lauras dads name, that was a blank endorsement [3-205 Anomalous indorsement an indorsement made by a person who is not the holder of the instrument] Since further signature was not necessary (only requested by CG in order to put liability on him in case the check bounces) the forgery does not change things; CG is a holder, but only b/c the forged signature was not necessary for proper negotiation (thus, it did not affect holder status) a. Just needed possession only D. Problem 18:

14

1. Laura indorsed check w/a special indorsement, "pay to Lilly" her mom. Check was lost, a thief found it and indorsed it to CG by forging Lilly's name. 2. No, CG is not a holder since Harry (the thief) forged Lillys name; Laura made a special indorsement order paper; it needed to by signed by Lilly Lawyer a. At that point Lilly Lawyer is the only one who has the right either to negotiate the check or present the check for payment 3. Only when you are writing the original instrument you have to write Pay to the order of ___; If there is a special indorsement, then you can just write Pay to ___ E. Problem 19: 1. Laura signed check and mailed it to her mom, Lilly, who wrote "pay to Lilly." 2. Is it now order paper requiring the mothers indorsement? Yes, it is now order paper and requires Lillys signature; Since Laura indorsed the check, it became bearer paper upon physical transfer; therefore, the mother (Lilly) was the holder and had the proper authority

Chapter 3: Holders in Due Course (page 35)

I. Acquiring Holder in Due Course Status A. Holder in Due course usually comes up after the initial transaction 1. Is paid regardless whether or not if there is some kind of problem going on between the initial parties as long as the requirements are met B. 3-302(a) 1. Have to be holder and the Face of the instrument should look okay looks legitimate and complete a. Cant look like its forged or altered 2. Have to have taken the instrument for: a. value; b. in good faith; and c. w/out notice that it was: i. overdue; ii. dishonored (DH),; iii. that there were any unauthorized signatures; and iv. no notice of any claims or defenses. (1) Remember that one cant be a HDC if the instrument is non-negotiable C. Holder 1. Instrument must be technically negotiable and must have been technically negotiated into the hands of its current possessor. 2. The drawee bank on which a check is drawn does not qualify as a holder. This is a mere surrender for payment (a presentment). D. Value 1. 3-303 Value and Consideration: measured at the moment the holder gave value for the instrument a. Fractional HDC rights. What happens when the promised performance is partially performed?

15

i. Ex: T agrees to pay H $8,000 for a note payable for $10,000. However she has only paid $4,000 and then subsequently learns that seller breached the K T can qualifiy as a HDC for only $5,000 because T has paid only-half of the agreed upon consideration and thus is only a HDC for one-half of the notes face value. 2. A gift of an instrument will never create HDC status in the donee (though may get shelter rule rights) a. A Gift does not equal Value b. Executory Promise does not equal Value i. This means a promise to give value in the future 3. Any value is consideration, but any consideration is not necessarily value 4. Promise to perform is not enough to get HDC status. Note: if actual work was performed then holder could become a HDC for some of the $. 5. Problem 20 (page 37) J took check to N and indorsed it over to him in return for Ns promise to represent J in a divorce: a. Is the atty a holder in due course(HDC)? Has he given value? b. Answer: Nathan Novice was a holder because he was in possession of paycheck and it was indorsed over to him however Novice did not give anything of value because An executory promise (promise to give value in the future) is not itself value; therefore, no value was given and holder is not a HDC; so, the sheriff can take the check; if you havent actually done anything yet (performed) then you wont be hurt by taking the instrument away i. One could conclude no value given because no actual performance has commenced and therefore no value ii. Note: If the holder hasnt done anything not necessary to protect that person; they can protect themselves by withholding whatever value they were going to give 6. Problem 21: a. Z bought car from F, Z signed a promissory note for $23,000 to F. F sold the note to Finance Co. for $22,800. Car fell apart and Z refused to pay. b. Answer: The finance company is a HDC for the full $23,000 b/c they have fully performed their part of the deal (buying the note for $22,800); therefore, they are a HDC for the full amount of the note; c. What if F owed his mother $21,000 and gave her the note w/the extra $ as a gift? The mother is not a HDC for the full amount, only a HDC for the $21,000; the other $2,000 is a gift and there was not value given; 3-303(a) (3) this was an antecedent debt the mother discharged the son for the debt, so it was given value that way; So forgiving a debt constitutes value 7. Problem 22 (page 39): 4-211 and 4-210 a. T tricked N into writing him a check to be drawn from her bank (1st). T took check to his bank (Last), endorsed it and put it into his checking acct. Last sent the check to 1st for payment but N had already stopped payment, so the check was dishonored and returned to Last. b. A drawee is not liable on a check

16

c. Last National is going to want to sue N she stopped pymt on the check d. when you write a check you are agreeing to pay the payee according to the checks terms, but if you stopped the check for a good reason (fraud), you can use that as a defense, but the defense is not good against a HDC e. Is Last National a HDC? i. Did they give value? Well they had a security interest according to 4-211 so they had given value ii. No, all Last National did was credit Toms account for the deposited amount so they would not qualify as HDC; The remedy is to simply uncredit his account (1) What constitutes value? The extent to which credit given has been withdrawn? Here nothing been withdrawn yet so no value 8. Special Rules Where Holder is a Bank a. Merely crediting a depositor's account is not value, b/c the bank would have the right to set aside the credit if the instrument was returned unpaid. b. Bank is a HDC only of the amount withdrawn from account or actually given to the customer. c. Banks: 4-211: A bank gives value whenever it has a security interest in the instrument d. Falls Church Bank v. Wesley Heights Realty, Inc. (page 38) i. Bank was a HDC for the amount of money withdrawn from its customer's account. e. Problem 23 (page 39): i. Same facts as 22, but T already had $500 in his acct; T w/draws $500 ii. Is the bank a HDC for the $500? (1) No, the original $500 was the first credit; the bank has not given value; they will just withdraw the credit that was given (2) So to the extent that Tom has $500 already sitting in his account, that amount will be considered as already there and therefore there is no value iii. What if w/drew $750? (1) They are a HDC for $250; This is the First in First Out rule E. Good Faith and Notice 1. To become a HDC, the owner of the instrument must be a bona fide purchaser must have given value in good faith and w/out notice that there are problems with the instrument. a. 3-103 Definition of Good faith i. Honesty in Fact + ii. The observance of reasonable commercial standards of fair dealing b. 1-202 Notice means should have known, not know/knowledge; OR

17

i. Use Objectionable Reasonable Standard 3-302(a) (1) Cannot have notice that the instrument is: (i) Overdue (due date has passed) (ii) , dishonored (instrument marked NSF) (iii) , altered/unauthorized signature, (a) The document must look okay (no apparent evidence of forgery or alteration) (b) Ex: H obtains a promissory note which has obvious erasures and which has been taped back together after being ripped into a dozen pieces. H will not qualify as a hdc because there is clear evidence of alteration. (iv)or any claims to the interest (v) That a party has a defense of a claim to recoupment (a) Ex. Obligor didnt receive the goods as promised (i) Notice of these things after instrument is acquired does not destroy HDC status 2. General Investment Corp. v. Angelini (page 40) Good Faith; duty to inquire a. Facts: Aluminum siding salesman had people sign a note and then didnt do the work; then sold the note to Finance Co. b. Holding: Finance Co. was not a HDC b/c they knew that the contract didnt require anyone to make pymt until 60 days after the job was done and they knew that the note was being discounted and they were buying it 10 days after it was signed; so, they would have had to believe that all of the work had been done in 10 days; they knew that they were taking the note before the job had been completed and that there had been misrepresentation i. Generally holder doesnt have duty to inquire (1) But when facts are evident such that failure to inquire deliberate desire to evade investigation that might disclose problems Not acting in good faith Cant acquire HDC status under these circumstances ii. Ct. noted that there was substantial amount of work involved to complete iii. Ps knew that Ds wouldnt be liable until 60 days after the work was completed iv. Note was discounted- sold to plaintiff- only 10 days after contract was entered into. 3. Problem 24 (page 45): Good Faith a. Treasurer of corp. used corp. checks to pay his visas bills and wrote phony explanations. When corp. figured out what happened it sued Visa. Visa said it was a HDC and not amenable the suit. Corp. said there were suspicious circumstances (3-302(a) / 3-307). b. Is Visa a HDC? Did they act in good faith and w/out notice? i. Suspicious not payable to the right business name

18

ii. Holding Just b/c the name isnt right as long as intended payee (remember back that wrong spelling is ok as long as intent), doesnt necessarily put you on notice that something is wrong (1) Use of corporate checks to pay employee debts is an everyday occurrence in this business world (2) Corporation was in best position to prevent the embezzlement or theft and Ct. doesnt want to burden holder of negotiable instruments with this monitoring function 4. Any Kind Checks Cashed, Inc. v. Talcott (page 45) Good Faith; The observance of commercial reasonable standards a. Holding: The check cashing place was not a HDC b/c didnt take check in good faith; didnt use reasonable standards of fair dealing check was for an unusually large amount; it is unusual for a check cashing place to be cashing checks made out to a businessman (who would normally have a bank acct) b. Reasonable commercial fairness required Any Kind to approach the $10,000 check with some caution and to verify it with the drawer if it wanted to preserve its holder in due course status 5. Winter & Hirsh, Inc. v. Passarelli (D) (page 54) Notice a. Facts: P advanced funds prior to the loan being formalized and thus is charged w/ having knowledge of the terms of the loan b. Holding: P had reason to know there was a good defense against the note b/c P purchased note prior to execution & was a co-originator of the note i. Generally holder doesnt have to duty to inquire but holder may be noted of constructive knowledge that were evident from the circumstances 6. Problem 25: (page 58) Notice a. F wrote a check in 2008, but accidentally wrote 2007 as the year; so he crossed out the 7 and wrote 8. Can anyone become a HDC? b. Yes, since the maker of the check was the one who crossed it out. 3302(a)(1)- instrument when issued does not bear such apparent evidence of forgery or alteration or is not otherwise so irregular or incomplete as to call into question its authenticity. Comment 1 also says that the term authenticity is used to make it clear that the irregularity (get rest of slide from February 12, 2009) Maybe should initial it to show it was he who made the error [3304(a)(2) the check is 90 days past its date]; this wasnt a material alteration (not significant) See 3-302(a)(2)(iv) i. Also note The Code takes issue with unauthorized alterations, not authorized ones and here the alteration was by Fred, the checks drawer. c. If this had been a promissory note, then it would be a material alteration 7. Problem 26: a. A was payee on a note signed by J calling for J to make 12 monthly interest payments. A sold note for discount to B; on note it said in big letters "missed paying first installment" can B be a HDC? b. Yes, b/c there is no default. 3-304(c) an instrument does not become overdue if there is a default in pymt of interest but no default in pymt of

19

principal.; There werent overdue principal payments , just interest payments and therefore it does not compromise being a HDC. So notice of overdue principal payment will compromise your status of being a HDC. c. If there is a default on an installment of a principal payment, and then the default is cured, then there can be a HDC, but not until the default is cured; if not an installment payment, then the pymt is overdue the day after the demand for payment is duly made 8. Problem 27: a. D wrote check to P for dental services; P lost check for over 90 days; P then endorsed it and presented for payment at grocery store; Check bounced; drawee bank told grocery store that D stopped payment b/c dental work has been done badly. Is grocery a HDC? i. No, because the check was more than 90 days after its date; it is overdue. 3-304(a)(2)(overdue check) Since the date was on the check, the grocery store should have been on notice; therefore, w/notice, they cannot be a HDC ii. ; however, 4-404 (stale check) says that the check can be paid up to 6 months past the date of the check; therefore, you cannot be a HDC after the check is stale, but it can still be cashed up to 6 months past the date of the check b. Checks are payable on demand (can be immediately cashed) c. What if the dentist took it to the store right away, and the grocery store didnt try to collect on it for 100 days. Are they a holder in due course? i. Yes, HDC status is determined at the time you take the instrument d. 90 days goes toward HDC status; 6 months goes toward cashing the check (staleness of the check) no obligation on bank to cash after 6 mos. 9. Problem 28: a. The computer E purchased did not work, so she decided not to pay note. Note was payable at B bank. E called B bank & told them not to pay when it came due head cashier promised not to; 4 months passed and note was paid. B bank now demands payment from E, claiming it is a HDC. Is it? b. No, the bank is not a HDC b/c they were on notice that there was a claim against the note c. there is no longer a forgotten notice doctrine; once notice is given, thats it; loss of memory is too easy to pled d. The bank will argue that too much time passed (four mos.), but the UCC left language out about the forgotten notice e. Another issue: Does notifying a cashier = notifying the bank? i. The bank should have a system set up that indicates that there is a problem paying the note ii. Notice to the person who deals with that type of work should suffice as giving notice to the bank. See 1-202(f) f. To be effective, notice must be received. 3-302(f) 10. Problem 29: a. GE bought machinery from T; GE made note payable to T for $2,000; T sold note w/out indorsement to F for $1,500; GE refused to pay when note

20

came due, stating that machinery didnt work properly; the day before F filed suit against GE, Fs atty saw that T had never indorsed the note; atty had T indorse it and then F filed suit. Is F a HDC? b. No, b/c the instrument was not indorsed, and therefore not negotiated before F had notice of the claim, even though value was given. 3-203(c) i. The company learned of the problem before establishing themselves as a holder because they failed to complete the negotiation process because they failed to get it indorsed (this illustrates the technical aspects) (1) Look at Comment 3 of 3-203 11. Jones v. Approved Bandcredit Corp. (page 60) a. Close Connection Doctrine i. When there is a close relationship btwn the payee of a note and the finance co. that the payee sells it to; finance co. is said to be on notice of defense b/c of the relationship ii. Broader/easier than piercing the corporate veil iii. Even if we recognize the finance company as a separate legal entity, they are still so closely related to the payee that we are going to deem notice to the payee as deeming notice to the financial company b. Facts: Both companies were wholly owned subsidiaries of the same corporation and 99% of the finance co.s business comes from Dell; the finance co approved all credit transactions before credit was extended; both had same directors and officers on their board c. Holding: The finance company was too closely related with the initial transaction and the payee in the transaction; not a HDC; if the payee had notice then this finance company since there was a close connection 12. Sullivan v. United Dealers Corp. (page 67 a. Facts: The companies did a lot of business together, but werent owned by the same corporation or have the same board of directors, etc. b. Holding: The finance company was a HDC; not as closely related w/the initial transaction as in the case above 13. The initial payee on the note cannot be a HDC; they are deemed to always be on notice 14. Shelter Rule: 3-203(b) a. You get all of the rights that your transferor had; if the transferor was a HDC and you were not, then you can act with their rights as a HDC; you are not a HDC, they only get the rights 15. Problem 30: (page 69) a. 3-203(b) b. M HJ (payee) A (HDC) J (by gift from A) c. Is Jessica a HDC in her own right? i. J is a holder, but she is not a HDC b/c she didnt give value and instrument was not negotiated to her ii. However, she has the rights of A as a transferee, so she has the rights of a HDC

21

(1) 3-203 O.C. 2: If the transferee is not a holder because the transferor did not indorse, the transferee is nevertheless a person entitled to enforce the instrument d. Does it matter if J knows about the problems w/Ms car? i. No, she can still assert her HDC rights; notice doesnt matter since shes not relying on her own rights, shes relying on Alfreds rightsthis is using the shelter rule; so if she gives it to somebody then they get the same rights she had. So in this case she had holder in due course rights but not status. 16. Problem 31: a. Facts: same as above w/J L b. No value was given by the transfer from Jessica to Lorenzo since it was transferred as a gift; thus, Lorenzo is not a HDC c. L didnt give value, so not a HDC on his own but he would have the transferors rights and in this case that was Jessica d. Does it matter if L, prioer to the gift, knows of Ms problems with the car? No it does not matter because the shelter rule and Lorezno doesnt lose Alfreds HDC rights. i. L isjust standing in As shoes e. L gets Js rights, who had the rights of A, who was a HDC and since hes relying on Alfreds rights notice doesnt matter 17. Problem 32 a. Facts: same as above, but L P for $1800 (P had no notice of problems with instrument) When she presents to M for payment, he refuses and instead files for bankruptcy. Can P recover from A? i. Yes,Alfred is liable as a prior indorser under 3-415 suing prior endorsers and P has HDC status (not rights) since she was w/out notice and she gave value ($1800) b. If P prevails against A, does A reacquire his original HDC status when he gets the instrument back? Could he sue J and L? i. Yes, Shelter Rule does not give Alfred Portias HDC status; it basically erases everything that happened and he turns back into what he was originally (in this case a HDC) and he has recourse against the prior indorsers but not Jessica and Lorenzo 18. Triffin v. Somerset Valley Bank (page 71) a. There is a rebuttable presumption that a signature on an instrument is valid; must disprove the authenticity of the signature b. Side Note: If you are negligent in allowing your employees to get a hold of your signature stamp, then you will be liable for the instruments they created II. Real and Personal Defenses/Claims A. Defenses Against a HDC 1. 3-305(a)(1) applies to HDC Real defenses: these will defeat a HDC a. Defense based on infancy (under 18 yrs of age) i. Where K w/minors void or voidable

22

(1) If obligor is an infant- infant status is a real defense provided the state law in that jurisdiction makes K with infants void Or voidable(2) thus we must be aware of what the state law says b. Duress i. Matter of degree (1) Occurs when one party signs an instrument under coercion (sometimes a real defense, sometimes a personal defenseso severity is what we are looking at here) (2) Ex: Sign this note or dievery severe so real defense (3) Ex: Sign or call the admissions director and tell him about your sons drug charge- this is a personal defense because would be deemed a voluntary act to avoid undesired consequences thus HDC could still collect in this instance (4) Notes: Duress must make obligation void under state law c. Lack of Legal capacity i. Must make K void (1) Persons declared incompetent by judicial proceedings (ex: mental illness) or (2) Corporations that have failed to take the necessary legal steps to transact business within that state (3) The key: State law must render K void as a result of obligors incapacity at time K was made (not just voidable) (i) If the incompetents obligations are merely voidable, then that is a personal defense. HDCs rights to payment not affected by this and obligation to pay d. The Subject Matter Underlying the Payment obligation is illegal i. Note: Underlying obligation must make the K void under state law, not just voidable ii. Ex: C loses pool game to H and pays of gambling debt with a check. State law makes gambling debts void from their inception. C stops payment on the check after it has been negotiated to Hs bank. Even if the bank qualifies as a HDC, C can assert the illegality to avoid payment. e. Fraud in the Factum (Real Fraud) i. As distinguished from Fraud in the Inducement (1) Signer lacked knowledge of the instruments character or essential terms (didnt know you were signing a negotiable instrument) and (2) Signer lacked reasonable opportunity to learn of the instruments character or essential terms (i) Thus signer lacked the intent to sign a promise or order to pay

23

(3) Ex: Ben Roethlisberger is at Superbowl parade and signing autographs and crooked fan comes up to him and has promissory note where Ben promises to pay crooked fan 30,000 two weeks from today. (i) Ben cant be expected to to read the printing on every piece of paper handed to him to sign. Ben would have strong argument for Fraud in the Factum f. Discharge in insolvency proceedings i. (I.E obligor files for bankruptcy) (1) Defined in 1-201(22)- Includes an assignment for the benefit of creditors or other proceeding intended to liquidate or rehabilitate the estate of the persons involved (i) Bankruptcy is most common type of insolvency proceeding (ii) Ex: D borrows $10,000 from F, signing a promissory note for that amount. Following Day D files petition for bankruptcy, and shortly thereafter Court discharges the debt in bankruptcy. One year later National Bank presents the note for payment. Even if Bank is a HDC, D has a real defense based on discharge in bankruptcy. 2. 3-305(a)(2) Personal defenses- HDC status is not subject to personal defenses; HDC is impervious to personal defenses against payment; Note: Any transferee of a negotiable instrument without HDC rights takes the instrument subject to all such personal defenses a. Lack of Consideration b. Failure of Consideration c. Breach of Warranty d. Fraud in the Inducement (not a Real Defense) i. Had reasonable opportunity to read what you were signing ii. Ex: B tells H and W that new aluminumg siding will cost nothing because he wishes to use the finished product as advertising. B hands them a promissory note which he refers to as a teleivision authorization. H and W sign the document without reading it, thinking that it is an authorization form giving them consent to use their house for advertising purposes. 3. 3-305(a)(3) Claim in Recoupment a defense that would reduce the amount owed; allows Obligor to offset costs incurred to fix damaged item a. Obligor can assert this claim against persons to whom instrument is transferred, provided the transferee is not a HDC b. Gives someone who owes a debt the right to subtract from the debt c. Caveat: Claim must arise from the SAME transaction that gave rise to the instrument 4. 3-306 claim to the instrument (that is my instrument) 5. Problem 33: (page 78) Claim in Recoupment

24

a. M bought boat from A, paying $500 down and signing a note for $1000; A told M boat wouldnt sink, but it did; it cost M $300 to fix it; meanwhile A gave note to F as a gift b. 1st Q: Can M assert his damages against F? Yes, M has claim under the claim of recoupment (this gives obligor the right to offset costs incurred to fix damaged item and obligor can assert this claima person to whom instrument is transferred, provided the transferee is not a HDC), so M could deduct $300 from the total pymt and he would only owe $700; A claim in recoupment cannot be used against a HDC. 3-305(b) Father was a mere transferee and thus recoupment claim can be asserted against him i. Caveat: Claim must arise from the same transaction that gave rise to the instrument; so claim must be related here to the boat Here M claim is on the damaged boat, The boat was the object for which the promissory note was given (the transaction that gave rise to the instrument); ii. The initial payee is not a Holder in Due Course so thats why the father could not have holder in due course rights c. 2nd Q: What if damages came from As dog biting M? Dog bite is not a claim of recoupment b/c it didnt arise from the transaction that gave rise to the instrument; father would not be taking the note subj to any recoup claims & would have legal rt to the notes full face value 3-305(a)(3) 6. Federal Deposit Insurance Corp.(FDIC) v. Culver (page 79) a. Fraud in the factum. 3-305(a)(1)(iii): fraud that induced the obligor to sign the instrument without knowledge or reasonable opportunity to learn of its character or its essential terms i. Hard to prove b. Facts: D entered into a transaction w/Kalliel for a $30K loan. One week later he was approached and asked to sign a form w/lots of blanks believing it was a receipt for the loan. Later filled in to show a $50K loan @ 14.5% until maturity and 18.5% after. c. Holding: By signing the note before the terms were completed, D created a blank check that could be enforced by a subsequent holder in due course had a reasonable opportunity to obtain knowledge of the documents character before he signed it; plain ignorance is not an excuse 7. Problem 34 (page 84): a. M sells R the Brooklyn Bridge (said he owned it); R signed note; M sold note to F who was a proper HDC b. Fraud in the factum is a defense that can be brought against a HDC. However, not likely to have a defense of fraud here. Did he know what he was signing? Was he blind? Could you read? Here R knew he was signing a promissory note and had reasonable opportunity to learn of its character. But he was induced into signing the note under false pretenses. But fraud in the inducement cant be brought againt a HDC so wont work against F. c. What would destroy HDC? Notice. Nobody can sell the bridge, so they potentially had notice of a defense. But if it didnt say anything about the bridge then R is going to have to pay

25

d. Can bring a fraud in the inducement but you cant bring that against a HDC which happened here; however you can bring against a non-HDC, which would be more likely in this case. So Rube has to pay the finance company. 8. Problem 35: a. T (17 yr. old) signed note payable to M for a piano; M didnt know Ts age; M sold note to B for $725; When 1st pymt came due, T refused to pay; T told B that he disaffirmed the sale and to come pick up the piano. Who wins? b. 3-305(a)(1)(i): If the state law in which the K is made makes Ks void or voidable at the minors option, the minor has a Real Defense against the obligation to pay the note when a HDC presents the note for payment. If he turns 18 before he disaffirms the sale, he may have sat on his defense of infancy too long. If the infant consumes the product (destroys, etc) then chance that the bank would win. Remember always be mindful of what the state law says. 9. Problem 36 (page 85): C (17 year old) gives check to Byron Auto Sales for Car. B gives to CNB Bank who gives cash to B. a. 3-306: Claims to an Instrument; if dealing with Rescission cite this b. Negotiation is effective even if obtained from an infant; therefore, the bank is a HDC. 3-202: Bank doesnt have to give the check back since they gave value for it. If possessor is a HDC Cant rescind. 3-306. Minor needs to try and rescind the K and talk to the car dealer. c. H would bring an infancy claim against the Car Salesman since that is where the infancy problem arose. 10. Sea Air Support, Inc. v. Herrmann (page 85) a. 3-305(a)(1)(ii): Illegality b. Facts: H wrote a check to Ormsby House (a casino) for the purpose of repaying money knowingly advanced for gaming; the check bounces; OH couldnt collect so assigned to Sea Air Support; SAS couldnt collect so filed suit and claimed to be a HDC c. Rule: Debts incurred, and checks drawn, for gambling purposes are void and unenforceable, even in Nevada d. Holding: The check is void and unenforceable and SAS is not a HDC i. HDC issue: The promise to perform services in the future does not constitute taking for value and SAS had at least constructive notice of a defense against collection b/c check was payable to a casino and they knew it had been dishonored 11. Question (pg 87): No, still could not have enforced the note since there was illegality due to Nevadas statute 12. Class Notes: a. 3-305(a)(1) most of the defenses go toward the procedural defect of the instrument; people dont know what theyre doing b. Illegality is not like the other defenses; people know what they are doing c. Can SAS use the shelter rule to gain HDC status; No, since OH was a party to the original transaction, they did not have HDC status, since they were the original payee

26

13. Kedzie & 103rd Currency Exchange, Inc. v. Hodge (page 87) a. Issue: Whether the noncompliance of Fentress w/the IL Plumbing License Law gives rise to illegality of the transaction with respect to the K for plumbing services so as to bar the claim of the Currency Exchange, a HDC of the check initially given to Fentress b. Holding: CE can collect from Hodge; illegality not a claim here; Unless the instrument arising from a contract or transaction is, itself, made void by statute, the illegality defense under 3-305 is not available to bar the claim of a HDC; Not only must the transaction be void, but the instrument paying for the transaction must be void in order to have illegality. 14. Problem 37: Discharge as a defense ; E filed for bankruptcy. Among the debts was a long from B which was evidenced by a promossirry noted E signed. In due course, the judge ordered E be discharged from all her scheduled debts. Two years later the promissory note surfaced inte h possession of SB which claimed to be a HDC. Must E pay?(page 94) a. 3-305(a)(1)(iv) b. No, discharge of the Obligor in insolvency. Bankruptcy (or insolvency proceedings) is a real defense against claim by a HDC. 3-305(a) c. A HDC takes the instrument subject bankruptcy which is a real defense. d. When you, buy a negotiable instrument, you take the risk that the maker/drawer of the check has gone or will go bankrupt 15. Problem 38: a. See 3-602(b) and (d) b. Facts: M bought a car from V; V sold note to O; O notified M to make payments to O; M sent O money (for the rest of debt from money he got from dead aunt) and asked to send the note back, but O didnt and sold it to someone else, c. M obligation on the note is discharged. i. A note is considered paid where obligor pays transferor Prior to Transferor or Transferee giving notice of transfer 3-602(b) ii. Transferree is deemed to have notice of payment 3-602(d) iii. 3-602 Offical Comment 2 (1) When a person entitled to enforce the instrument transfers the instrument without giving notice to parties obligated to pay the instrument; if this happens and one of the parties subsequently makes a payment to the transferor, the payment is effective even though it is not made the person entitled to enforce the instrument B. Forgery 1. Problem 39: JS, expert conman, went into Jewelers store and F, the owner, that he was M, the richest man in town. F was to awed to ask for indentification. JS picked out very expensive jewelry and signed Ms anme to promissory note to pay for them. JS skipped town and when the note matured Tenth National bank(a HDC to whom F had negotiated to presents to M for payment. May M refuse to pay a HDC?

27

a. Yes, M can refuse to pay a HDC; No one is liable on an instrument unless that person signs the instrument b. 3-305: Must be a party to the transaction; therefore, the real Milton Money wins c. 3-401(a) not liable unless signed d. 3-305(a)(1)(ii): Lack of legal capacity, or illegality of the transaction which, under other law, nullifies the obligation of the obligor e. 3-403 states that only person liable in the event an unauthorized person signs and instrument is the unauthorized person signing the note, in this case JS; i. Note TNB has HDC rights but only against JS, the actual maker of the promissory note 2. Problem 40: Theif steals travelers check and forges signature and negotiated to V. a. 3-104(i) definition of travelers checks counter signature required as a security measure to match signatures; but is not necessary for negotiability b. 3-106(c) and Comment 2: a countersignature is not a condition that destroys negotiability; The forged countersignature is a defense to the obligation of the issuer to pay the instrument, and is included in defenses under 3-305(a)(2); however, the bank that cashed the travelers checks can still be a holder; whether they are a HDC depends on notice, which depends on whether the forged signature was a good one or not c. Answer: maybe yes and maybe no 3-106(c) failure to get an authorized countersignature is a personal defense (not a real defense) to the bank that issued the travelers check; if the check cashing store was a HDC, then the bank that issued the check will have to pay 3. Virginia National Bank v. Holt (page 97) a. 3-308(a) when proving signatures, the holder of the instrument gets the presumption that all of the signatures are valid and authorized; to overcome the presumption, evidence has to be introduced that its not your signature (simply denying its your signature is not enough) i. Evidence that could be used have a signature analyst, have a 3rd party who saw him sign it (still need to prove she didnt give H authority to sign for her), evidence that they were separated at the time, etc. C. Defenses Against a Non-Holder in Due Course 1. 3-305(a)(2) and (3) and 3-306 are the defenses against a Non-HDC 2. Herzog Contracting Corp. v. McGowen Corp. (page 100) a. Facts: There was an understanding that the note would never be collected on; it was a sham promissory note; the note, however, got transferred to a successor corporation who tried to collect from the maker of the note i. The counter to that is the parole evidence rule; the rule comes up b/c there is an exception to the parole evidence rule condition precedent to the object being affected (ex: K was entered into, but

28

there was a condition precedent to it taking affect (used here), K was entered into by mutual mistake of the parties, etc.) D. Jus Tertii (right of another) 1. Problem 41: (page 107) a. C uncle Stonewall Stolen by Thief Eleanor (who pays $ for it) b. Elenaor is a HDC because got in good faith, no notice, gave value. (assuming there is no suspicion) c. Stonewalls check to uncle bounced; now, Eleanor is now trying to collect from C who may claim to be a HDC i. E is not a HDC b/c there is an additional term in the instrument (a condition), which makes it a non-negotiable instrument! d. 3-305(c) can be used by uncle and Stonewall; want to get C to assert their rights; i. Uncle has a claim in recoupment or an absolute defense; however, according to this statute, C can only assert a claim to the instrument if his uncle (if he had a claim to the instrument) would join to assert

Chapter 4: The Nature of Liability

I. In General A. Four Preliminary Questions to Ask: 1. What negotiable instrument labels (drawer, payee, drawee, maker, endorser, etc.) do the parties bear? 2. What causes of action (contractual obligation, warranty, conversion, suits off the instrument) are available to each party? 3. What defenses are possible (personal or real)? 4. Can liability be passed to someone else? B. Promissory Note 1. Initially a two-party instrument C. Draft 1. Always begins as a three-party instrument D. Types of Liability 1. Contract liability one takes on when they sign an instrument; by operation of law, obligation is taken on a. Makers obligation b. Drawers obligation c. Endorsers obligation 2. Warranty liability that is incurred by passing the instrument along to someone else; akin to the Implied Warrant of Merchantability; a. Transfer Warranty b. Presentment Warranty 3. Conversion liability incurred when one acts in a way w/a negotiable instrument that belongs to another; a tort you commit when you pass along a stolen negotiable instrument 4. Underlying Obligation it occurs when a negotiable instrument is issued to satisfy another obligation 29

**There is usually overlap in application of the liabilities; more than one type of liability can apply to a single situation***IMPORTANT FOR EXAM list as many of these that you can II. The Underlying Obligation: 3-310 A. A suit on the underlying obligation is the most common lawsuit connected w/negotiable instruments that was not created by Articles 3 and 4 B. Problem 42 (page 110) 1. Facts: F was unable to pay rent; F offered LL promissory note to pay it in 3 months; LL took note and gave it to bank; One week later, LL filed suit for nonpymt of rent (the underlying obligation lease agreement) Can F defend by saying the note somehow suspended LLs right to sue on the underlying obligation 2. Answer: See 3-310(b). Yes she can a. An outstanding contractual obligation exists (Rent money in exchange for space for F to run hat shop) b. 3-310 says : If creditor takes instrument in lieu of money, the underlying obligation is SUPSENDED (meaning LL cant enforce collection of the rent prior to the promissory notes due date) c. So Simon has to wait until the note matures (3 months in this case and until that three months lapses and F dishonors the note, LL cant do anything) d. The note suspended LLs right to sue on the underlying agreement, until it is dishonored; if it is dishonored (not paid) then the underlying obligation is revived; if the note is paid, the obligation is discharged; since the LL has been paid by the bank for the note, if it is dishonored, the bank is likely to go after the LL, then LL will go after F on the underlying obligation or LL can sue on the note and be able to get the interest that has accrued as well as the amt of the note C. Problem 43 1. Facts: What if, same as above, but F paid LL with a cashiers check; LL took check to bank, who it was drawn by, and it failed/closed no longer a bank 2. Answer: See 3-310(a). a. F should tell LL that when he took the cashiers check it was as if he was taking actual money & that she owes him nothing further b/c the underlying obligation was discharged; b. Taking the cashiers check immediately discharges the underlying obligation; if it was an ordinary check, and the bank failed, the obligation would still be on her; c. LL still has a preserved recourse against the bank D. Problem 44 1. Facts: LL took the note, but then tore up the note. May LL sue F for the rent even the though the note hasnt matured. a. F would argue: See 3-604: Can discharge the obligation of a party to pay the instrument by intentionally and voluntarily destroying the instrument; discharged her obligation to pay the note and the underlying obligation is destroyed

30

b. LL would argue: 3-309(b): LL must prove the terms of the instrument and that he had a right to enforce it; the underlying obligation is destroyed c. F would argue: 3-310(b)(4): If the obligee is the person entitled to enforce the instrument but no longer has possession of it b/c it was destroyed, the obligation may not be enforced d. Answer: LL destroying the note didnt accelerate Fs obligation to pay past due rent i. F is entitled to suspending her payment obligation until the note matures ii. Upon Maturity- LL Can enforce the note, but if F balks, LL may have to prove that the note existed and what the terms were e. If cancellation clerical error Obligation probably reinstated and F would be obligated to pay on the due date as contemplated in the original promissory note 2. OBLIGOR Owes; OBLIGEE rEcEives E. Ward v. Federal Kemper Insurance Co. (page 111) 1. Issue: Whether Ins. Co. properly cancelled an insurance policy for nonpayment of a premium? Whether W owed the premium at the time of cancellation? 2. Holding: In favor of Ward; When Federal attempted to cancel the policy the entire premium was in its bank acct; policy was in effect when accident occurred; 3-310 Ward hadnt cashed the check, so the obligation was not discharged, it was only suspended III.Liability On The Instrument Contract Liability A. In General 1. Liability on the instrument as a result of signing the instrument, and the person who could enforce that liability was the current holder of the instrument 2. 3-401(a): A person is not liable on an instrument unless (i) the person signed the instrument a. No contractual liability arises on a negotiable instrument until and unless a signature is placed thereon B. The Makers Obligation (Primary Liability): 1. This is an automatic obligation from day 1 a. 3-412: Issuer of a note is obligated to pay the instrument according to its terms at the time of issue; The bank is the drawer of any certified check or cashiers check the person giving the money for the check is discharged i. Maker has Primary Liability- Must Pay instrument when itss due according to its terms at the time it was issued (1) If two or more sign as co-makers joint and several liability- each can be sued individually for the entire amount (i) Right of Contribution- One paying can seek prorate imbursement from other co-makers

31

(ii) Understand: Your rights and liabilities on which the instrument depends on the capacity in which you sign (co-maker, surety, guarantor) (iii) Ex: M and F sign the promissory note as MAKERS in return for $3,000 loan. At maturity, the holder collects the entire $3,000 plus interest from F. F then has a right of contribution form M for $1500 + pro-rata portion of the interest b. Defenses: if there is a holder, then all defenses apply; if HDC, then only real defenses apply 2. Problem 45: W, B, N sign promissory note sying We promise to pay GNB, sume of $3000. GNB indorses the note in blank and discounts to AFC. When note matures AFC sues W only. May W defend on the basis that AFC should sue all three of them, since the note contains the words we promise to pay a. No, Can collect only from Winkin b/c they are all jointly and severally liable can be sued individually or as a group [3-116(a)] : Two or more person who have the same liability on an instrument as makers, drawers, acceptors, indorsers, who indorse as joint payees, or anomalous indorsers are jointly and severally laible in the capacity in which they sign. b. Can keep suing until you get the full $3000 c. Instrument is Negotiable i. 3-104(a) waiver of rights does not destroy negotiability ii. 3-108 the codes expressly authorizes extension of time d. Can Winkin sue Blinkin? i. W can only sue B and N for their share ii. Yes, under the doctrine of contribution, W can sue B and N for $1000 each, since the total was $3000; if one of them is insolvent, then W could try to go after the other one for $1500 C. The Drawers Obligation (with regards to checks) 1. If the drawee bank doesnt pay (dishonors the check), then the drawers obligation comes into play 2. 3-414(a) Drawers obligation to pay ripens when draft is presented to the Drawee and the Drawee dishonors the check D. The Indorsers Obligation: Catch All provision that covers, anyone who signs in any capacity other than as drawer, maker, or acceptor 1. 3-415 (A type of Surety- Secondary Liability): endorser can be sued a. Indorsing instrument makes indorser a type of surety for all prior parties (including maker or drawer) b. By indorsing instrument, indorser promises to pay to any later holder BUT Obligation to pay is CONDITIONED i. Indorsers only liable for 30 days after the endorsement was made ii. Dont need to be a holder to enforce this obligation iii. Has to be presented to the maker (if note) or drawee (if draft), then dishonored before this obligation comes in to play 2. How can Indorser avoid liability?

32

a. Indorsement without recorse- have to write without recourse; This prevents the indorser from incurring secondary payment obligation. The indorsement merely passes title 3. 3-204(a) E. Accomidation Parties: 1. 3-419: A person who signs the instrument for the purpose of incurring liability on the instrument without being a direct beneficiary of the value given for the instrument a. Liability Depends on the capacity in which the accommodation party signs i. Ex: Son would like to buy car on credit but Auto Dealer is relecutant due to Sons weak credit. Son convinces mother to co-sign the note and Auto dealer sells car to son. Mother is liable as an accommodation maker in this situation. Auto dealer may collect the note from Mother and does not need to attempt to collect from the son first 3-116 b. Right to Reimbursement (3-419(f)) i. IF the accommodation party (surety) pays instrument, the accommodation party is entitled to reimbursement from the accommodated party (maker, indorser) and is entitled to enforce the instrument against the accommodated party ii. Contribution: If more than one surety, co-surety can go after the co-surety to recover pro-rata from each other 2. Problem 46 (page 118): a. Billy issues check to Snow, who endorses it to Drug Store, who endorses and deposits to JSB, who endorses and presents to RSB; RSB dishonors the check for NSF (not sufficient funds); Drug Store went out of business; Can JSB go after Snow and get reimbursed? i. Yes, by endorsing it, you are saying that youll pay the instrument if it is dishonored. 3-415(a) (1) Section a further reads that the indorsers obligation is owed to a person entitled to enforce the instrument or to a subsequent indorser who paid the instrument under this section (2) Note: bank would have additional recourse under 4214 which gives bank rights to reverser provisional customer credits in the event a check is dishonored when presented for collection b. Are there any defenses Snow can raise? i. Snow can assert whatever personal or real defenses avaliable ii. Is the bank a HDC? This limits what defenses can be brought c. Does Snow have to pay the whole amount since there are two endorsers? i. 3-116: Full amount; endorser liability you have to pay the full amt to the person who is trying to enforce the instrument and also to subsequent endorsers who paid the instrument after he did

33

ii. Snow has recourse against Billy for underlying obligation and drawers obligation 3. Problem 47: a. Charlies needs loan from bank so he gets Lucy, Schroeder, Pig, then Peppermint to sign the note. When note comes due bank demands payment from C but its dishonored. Bank gives to all four indorsers but demands payment from Peppermint alone. She resisted and claimed she was liable for only 1/4th of the note. Is she right? i. No, Peppermint has joint & several liability-3-116 (1) An anomalous indorsement 3-205(d): Signing the back of the instrument makes the signer liable on the instrument as an endorser. Such an indorsement is normally made by an accommodation party( person who signs the instrument to lend his credit to another party but does not receive any direct benefit). So first question is what capacity did Peppermint sign? (2) 3-415: When you sign in the capacity as an endorser (sign on the back), then you are an anomalous endorser, which means that you still have to pay, (i) As an accommodation party along with co indorsers she Peppermint has a right of contribution from the other other accommodation parties b. If Peppermint pay $10,000 can she sue Pig for entire amount or only part? i. No for entire but for portion, Pig is co indorser (1) Co indorsers have the right of contribution- meaning they can sue co-indorsers for their pro-rata share of the liability (2) So Pig liable for $2,500 c. If Peppermint sued can she bring the other indorsers into the lawsuit? Yes 3-116(b) affords co-indorsers the right of contribution from other co indorsers 3-119: P should notify other endorsers about suit d. If Charlie comes back into the chips, can Peppermint sue him? i. (d) Yes, on the theory of 3-419(f); which entitles accommodation party the right seek reimbursement from the accommodated party, which in this case was Charlie. ii. Accomodation party: signing to incur liablility but receiving no direct benefit; you can be the maker, drawer, or indorser 4. Problem 48: a. 3-415: it disclaims liability it says Im not standing behind this note; no one can bring an endorsers obligation claim against you, but it does not disclaim any warranty liability b. 3-203: subsequent endorser can reject having it signed w/out recourse c. The personal defense is no good against the Finance Co; she has to pay them if they sue her, but if they dont want to sue M, then they cannot go after the Music Co. 3-415(b)

34

d. Lesson: dont accept an instrument that is assigned w/out recourse unless you are willing to let ____ off the hook e. If Music Co sues M, then M can use the defense of the defective piano **Signing w/out recourse disclaims contract liability, but not warranty liability f. Melody was the primary obligor and has primary liability g. Ivory Keys has secondary liability in this case but they indorsed without recourse so you cant go to them and try and collect from them F. The Suretys Obligation 1. Surety: a surety is one who agrees to stand in and perform the principles obligation in the event the principle fails to perform 2. Principal- the one who has the intial obligation 3. Creditor- the one to whom work is owed 4. Surety and Guarantor can be used interchangeably; you have agreed to pay for the debt of someone else of someone else or you agree to perform an obligation if the principal doesnt; Comes up in Construction a lot a. Surety defined in UCC 1-201(39) includes a guarantor or secondary obligor; secondary obligor is in 3-103(a)(17) defined as anyone (includes endorser, co-maker, and accommodation party defined in 3-419 lends its name to the instrument solely for the purpose of incurring an obligation signing the instrument to guarantee payment backing up the debt) who has a right of recourse against someone else on a negotiable instrument; guarantor not defined in UCC b. Accommodation Party defined in 3-419; an AP backs up; has a right of recourse against other parties of the instrument c. AP is a secondary obligor and a secondary obligor is a surety d. KNOW what accommodation party and secondary obligor are! 5. Issues: a. How can you identify a suretyship? b. If you do identify it, what does that mean in terms of their liability? When do they have to pay? Do you sue the principal obligor first or can you go straight after surety? c. If surety has liability, what defenses do they have? d. Assuming the surety has to pay, what rights do they have to get reimbursed from the principal obligor or co-suretys? 6. Problem 49 (page 122): Frank Family creditor; Quickie principal; Big Bank surety; a. The Three Contracts i. The underlying obligation btwn Frank and Quickie to build the house ii. The promise of Big Bank to back up the building of the house by Quickie so that Frank loses nothing; suretyship contract iii. Quickies promise to pay back Big Bank for what they paid backing Quickie up: other party of the suretyship contract 7. Four Rights: a. Right of reimbursement

35

b. Right of Exoneration right of surety to tell principal obligor to do the job in the first instance; An equitable right, compelling the principal to perform instead of the surety c. Right of Subrogation if you take care of someone elses obligation, you stand in their shoes and get whatever rights that they have (similar to the shelter rule, but broader) i. Ex: most useful when there is collateral for a loan d. Right of Contribution get contribution from co-guarantors; right of partial reimbursement that co-sureties have against each other for proportionate shares of the debt 8. The Accommodation Party a. UCC 3-419: A surety (accommodation party) is liable in whatever capacity he/she signs i. Ex: If signs as maker, then liable as a maker; if signs as an endorser, then liable as an endorser b. Problem 50 (page 125): Promissory Note and George signed on lower right hand corner where co-makers usually sign. Can they go after him first? i. Yes, Here George was a comaker and therefore joint and several liability; therefore, they could go after george first because was a comaker; however, he is also an accommodation party because he is not getting a direct benefit. HDC status doesnt matter here since the bank had notice of the accommodation status when they took the instrument; notice that G is a guarantor is established b/c he is signing as a co-maker, backing up M b/c she agreed to pay P; he is an accommodation maker and accordingly Geroge has primary liability on the instrument and not of dishonor is not required Thus G will be obligated to pay on the note ii. May G defend on the basis that he received no consideration for the undertaking? (1) No because 3-419(b): The obligation of an accommodation party may be enforcedwhether or not the accommodation party receives consideration for the accommodation; no, dont need consideration for the enforcement of the accommodation (2) Endorsers get to have the right of notice of dishonor (3) Makers do not iii. Is a G an accommodation maker or an accommodation indorser? (1) 3-204 Comment 1: General Rule - a signature is an indorsement if the instrument does not indicate an unambiguous intent of the signer not to sign as an endorser.; there is a clear indication here that G did not sign as an indorser; G is an accommodation maker because he signed where makers signed and he is not receiving any of the proceeds from the loan iv. A maker primary liability on the instrument v. Indorser

36

9. Guarantor a surety who adds words of guaranty to his/her signature (I hereby guarantee this instrument, 10. Problem 51 (page 126): Suppose G in the previous problem had writeen Guarantor after his aname. Would Ace Finance have had to sue Mary maker first or not? i. NO because 3-419(d) explains that the accommodation party must explain with clarity, the capacity in which the accommodation party is signing. (1) Merely signing the words guarantor without more explanation, will not alter the legal obligation as it would already stand as surety (2) Accordingly, G will still be considered a surety and ACF could seek payment against G without first going after Mary. 11. Floor v. Melvin (page 126) a. Not sure if still good law; Nehf says the wording is ambiguous b. A collection guarantee is an unusual guarantee need to make it crystal clear if that is what you want to do 12. Problem 52 (page 129) a. ONB loans $5,000 to Margaret; Margaret maker; Portia signed as an endorser. If M forced to pay this note when it mature, can she sue P, the indorser? i. No, M cannot sue P, since P is an indorser; the maker has no right of recourse against an endorser; M was the maker and therefore primary liability ii. Ps obligation is an anomalous indorser and therefore liable on the instrument as in indorser b. If ONB goes after P, can P get reimbursed from M b/c she is the maker? i. Yes, P was the Accomodation Party and as such she has the right of reimbursement from the accommodated party Missed March 10, Problems 53-58 59-62 13. Tender of Payment a. Problem 53: S + C (comakers on note) R (loans S money) A (gets note from R for money). C goes to A and says he will pay but A says lets wait and give S a chance. S goes bankrupt and then A goes back to C and says has to pay plus interest for extra month. To what is A entitled? i. 3-603(c): C is discharged to the extent of the interest; he doesnt have to pay any interest that was accumulated after offering to pay; So C should be required to pay principal and interest upto maturity date ONLY b. Instead on the due date S goes to A to offer to pay, but A says I know you need the money, pay me next month. One month later S goes bankrupt. Can A now recover from C? i. Under 3-603(b) Accommodation Parties and Indorsers are discharged when payment is tendered and refused. Thus A is preempted from going after C (the acc. Party) or S (the prior

37

indorser). His only possible payor is S, the primary obligor. The obligation of C was discharged when G refused payment from S; discharges anyone who has recourse against the person who offered to pay from their obligation c. Instead of above, on maturity date C goes to A to offer to pay debt, to which A makes same reply. One month later S and C go bankrupt. Is S liable to A? i. No same result as above. S liability as indorser was discharged ath the point where payment was tendered but refused 3-603(b) 14. 3-605 Strictissimi Juris a. Allows sureties a lot of defenses to get all or part of their obligations discharged; sureties are favored in the law b/c they are doing someone a favor b. 3-605 in General: If the payee on the instrument and the principal obligor get together and do anything w/out the guarantors permission that adversely affects the guarantor, then the guarantor is discharged of the obligation i. 3-605(D) reduces the secondary obligors liability by the amount a party entitled to enforce the instrument (the bank in the following case) impars the collaterals value c. Problem 54: i. Facts: B borrowed $10,000 from ONB; ONB wants collateral they also get A to guarantee the debt and get Ariticle 9 security intrest in Bs feed store(worth 6,000) but dont file properly. What is the effect of ONBs article 9 difficulties on Als liability. ii. As obligation is reduced by $6,000 since the inventory is worth $6000; by not perfecting the security interest, the bank has waived their rights to the collateral (the inventory); therefore the agreement has changed and A discharged the amount of the impairment ($6000) d. Chemical Bank v. Pic Motors Corp. (page 132) i. 3-605(f) ii. If the e. Problem 55 (page 137) G and M borrow 10,000 from ACF both sign a note for the amount. To secure thenote, the bank took mortgage on Ms vineyard but failed to file in proper place. Before note matures M files for bankruptcy and bankrupctcy creditors able to get Ms vineyard free and clear of banks mortage. Is G discharged in whole or in party by 3-605(e)? i. Is G a secondary obligor? No, G and M both receiving proceeds from the loan jointly. Therefore G not discharged at all. ii. If M had not filed for bankruptcy but the vineyard was still lost when the state seized it b/c she hadnt paid taxes, is she discharged by banks failure to perfect its interest in the vineyard? (1) M not discharged because she still owes the money as one of the primary obligors on the instrument f. Problem 56:

38

i. J signs note; guarantor S signs as accommodation maker; when note comes due, bank goes to J and says he only has to pay $5000 now and well excuse you from paying the rest ($70,000) ii. 3-605(a)(2): unless the bank reserves their right to go after the surety in the release, then S would be discharged; (1) Bank reserves right S still liable (2) Bank doesnt reserve right S discharged iii. If S does have to pay, can S get reimbursed from J, the principal obligor? (1) 3-605(a)(1): unless the terms of the release preserve the secondary obligors recourse, the principal is discharged, to the extent of the release, from any other duties to the secondary obligor under this article; (2) Therefore, if the bank and principal get together, bank reserves the right to go after S, and release the secondary obligors recourse, then S is screwed (3) 3-605(a)(3): If S can prove that the release will create a hardship on him, then he is discharged; (a)(3) ONLY applies if surety can prove that principal had the money! (this is tough to get through!!) (4) (a)(1) dealing w/ relationship btw. secondary obligor and principal obligor. A release of the principal debtor also means that the principal debtor does not have to worry about reimbursing the guarantor. (5) (a)(2) if creditor is well informed, then they will say that we would like to get some money from you they will then release principal from the remaining amount of debt but they reserve the right to guarantor and the agreement should say something about the guarantor having no recourse against the principal debtor. (this is a raw deal for the guarantor) (6) (a)(3) if guarantor can show that the above agreement caused it some loss, then it can be released from the debt. (this gives the guarantor to show that what the creditor and principal guarantor caused him some injury burden on guarantor to prove this) (i) What to look for? Where release occurred the principal debtor had money and could have paid more money. (a) Guarantor will be able to prove that the agreement caused him loss (he lost his right of recourse against a solvent debtor) iv. (b) (1) 3-605(b) S could show that P had money during the 6 month extension. (just show that at any time in that period that P had money and did not pay)Creating an extension is risky.

39

(i) (b)(1) Right to reimbursement - if S does pay early then he is going to have to wait 6 months to get reimbursed. (ii) (b)(3) Can S pay early? Yes, S could pay early. Reason to do this avoid interest. (iii) What if S wants to take advantage of the 6 month extension? (a) Can do unless the terms of the extension take away the right from S. (2) Lesson for guarantor if they have extended the time for your debtor and the creditor is trying to get the money from you right now. Guarantor is probably better off not paying and letting the creditor sue. (3) Nehf says 99% of the time a creditor gives a principal debtor an extension, then they will allow the guarantor to have an extension of time. v. (c) (1) 3-605(c)(i) What defense does S have? (a) 2 modifications release collateral and there is a higher interest rate. (b) S would want to argue about the increase interest rate S could be discharged to the extent of the interest rate AND can be discharged only to the extent that P cannot pay him back. vi. (d)Received consent from 2nd obligor g. London Leasing Corp. v. Interfina, Inc. (page 139) i. ISSUE: Whether a corporate officer who makes a note on behalf of his corporation and also personally endorses that note is discharged from the personal liability on the note by an agreement between the payee and the corporate maker, which extends the corporate makers time to pay the note. ii. Facts: Note issued and Evans signs as both corporate office and personally; Note was not paid on its due date; Leasing company extended the due date after negotiations with Evans; Evans signed as corporate officer. iii. Holding: Summary judgment for leasing. iv. Reasoning: Evans had consent! 3-605(f) deals w/ this issue unless the circumstances indicate otherwise, consent by the principal obligor to an act that would lease to discharge under this section constitutions consent to that act by the secondary obligor if the secondary obligor controls the principal obligor or deals with the same person entitled to enforce the instrument on behalf of the principal obligor. v. Illustrates that consent

40

vi. Remember you can consent to release, modification, extension, etc. vii. Proving consent can be done in the instrument, by specifically asking OR it can be done implicitly (which is how it was done in this case same person!) h. Problem 57 i. (a)No, under 3-310(b)(2). (1) What happens to the underlying obligation? It is suspended. (2) Underlying obligation was the first note. (3) Obligation of the first note is suspended until Sept. 25, 2012. ii. (b)Yes, Kent could sue either C or L under the first note. (1) R is liable on first note; C is liable under an accommodation maker under the first note. (2) C could bring a 3-605(b) extension of time C could claim that the extension caused a loss. C would want to show that L had money when the first note was extended. iii. (c)look above. i. Problem 58 i. 3-601(b) Discharge of the obligation of a party is not effective against a person acquiring rights of a HIDC of the instrument w/o notice of the discharge. ii. 3-305(b) subject to defenses iii. 3-302(b) iv. Suretyship discharges are personal defenses (not real defenses) so they will not be good against someone who became a HIDC of the instrument, w/o notice that you had a suretyship defense. v. ANSWER NO, Sam is going to have to pay the HIDC the full amount of the debt. vi. Might be able to argue that HH had notice of the impairment. (1) Promissory note might say there was some collateral and often the collateral will accompany the note. IV. The Drawers Obligation: A. General: 1. 3-414 2. Drawers liability is sometimes considered secondary b/c the draft must first be presented to the drawee for payment and dishonored by the drawee before the drawer has a legal obligation to pay the instrument a. Note: this is unlike the liability of a maker of a note, which is primary since it is not subject to these conditions precedent. 3. Rationale for the drawers secondary liability: a. With a draft it is the understanding of all the parties that the payee will first attempt to secure payment from the drawee and only look to the drawer if the drawee refuses to pay. 4. Drawers obligation is conditioned on dishonor.

41

5. Liability for the drawer does not occur until the drawee dishonors the check. 6. If the check bounces a. You can be sued under underlying obligation or b. Under your drawers obligation 7. Under any draft but a check you can be a drawer w/o recourse. a. Remember you can be an indorser w/o recourse. 8. With both indorsers and drawers only liable if instrument has been presented, it has been dishonored, and you have been given notice of dishonor. B. Presentment and Dishonor 1. Presentment = the demand for payment made to the maker of the note, or for drafts, to the drawee. a. 3-501 b. 3-501(b)(2) Rights of the Presentee: c. 3-502 Dishonor is the refusal of the presentee to pay. 2. How is a note presented? a. To the maker 3. How is a drafter presented? a. To the drawee i. If check then to the bank. 4. If presentment is proper, then for the most part, failure to pay when presented is a dishonor. 5. Problem 59 a. Facts: G pays off old debt to B by given check drawn on PNB Bank. B took check to bank to demand payment. Bank asks him to indorse back but B says no way. b. If bank declines to pay the check for Rs failure to indorse his name, has a technical dishonor occurred? i. 3-501(b)(3)(i) No, says that the party to whom the presentment it made may return the instrument for lack of necessary indorsement and this will not constitute a dishonor (1) Note: The indorsement here acts as a receipt so that bank can verify who presented the instrument ii. Nehf says that presentment has been made, but it has not been deemed a dishonor b/c R failed to give a necessary indorsement. (1) If payable to cash then indorsement is not necessary. (2) If payable to specific person then indorsement is necessary. c. Remember it is important to determine if there is a dishonor and whether the drawee can be gone after d. Can the bank ask R for ID? i. Yes, under 3-501(b)(2)(ii) . 6. Problem 60 a. G gave B check to pay off an old debt, B negligently lost it behind sofa and didnt find for 8 months. The bank it was drawn on refused to pay it because it was suspsiciously old. Is G still liable of the check?

42

b. Is G liable on the check (if B lost check for 8 mos. and bank refused to cash it)? (1) 3-414(b) Yes G still liable. Note, that 4-404 only says that Bank is not obligated to pay a check over 6 months old. But the section doesnt say anything about discharging drawers obligation. c. What if B indorsed the check the day after it was issued to him and then cashed it at the corner drugstore and the drugstore mislaid it for 5 months before the drawee bank dishonored it, is B still liable to the drugstore? i. 3-415(e) B is discharged b/c it was more than 30 days after his indorsement. Under this section, if check not presented within 30 days of indorsement, Indorsers liability is discharged. Here drugstore presented check after 5 months so B accordingly discharged. d. 30 day period also applies to HIDC status. i. Remember discharge is only a personal defense it is not good against a HIDC who took the instrument w/o notice that you were discharged. ii. If the checks into the hands of a HIDC it could very well be that one of those indorsements on the check is 60 days old. 7. Messing v. Bank of American, NA a. Thumbprint was found to be a to be reasonable identification i. (1)UCC has found thumbprints to be effective, reliable, and accurate way to authenticate a writing on a negotiable instrument. ii. (2)Process that a non-account holder goes through to provide a thumbprint signature is not unreasonably convenient. iii. (3)Procedure is reasonable and necessary answer to the growing incidence of check fraud. b. Check was never dishonored b/c P failed to comply with terms of instrument. c. How does the thumbprint system work? i. It is to be able to catch people who are passing and cashing bum checks when they are not entitled. ii. Rationale is that people can get fake IDs d. Thumbprint system serves as a deterrent. C. Notice of Dishonor: 1. Indorsers are entitled to notice of dishonor after it occurs. 2. Drawers are entitled to notice of dishonor only if a non-bank acceptor refuses payment of the draft 3-414(d) 3. 3-503 Notice of Dishonor = D. Protest: 1. Protest = technical ritual in which an official, normally a notary public, makes a formal presentment of a draft to the drawee and, upon dishonor draws up, signs, and seals an official statement of what happened. 2. See 3-505(b) 3. Ritual above is no longer required.

43

E. Excuse 1. See 3-504 a. (a) & (b) makes certain steps unnecessary b. (c) excuses delay 2. Typical ways that notice and presentment are excused: a. In the instrument (does not destroy negotiability b/c it is a waiver of a right that you have) b. Most standard promissory notes have this type of waiver language. 3. Problem 61 a. Facts: Promissory Note contains clause stating: All parties to this note hereby waive all rights to presentment, notice of dishonor, and protest. Is clause like this buried in the fine print on the front side of note sufficient to deprive indorsers of the right to notice of dishonor? i. The waiver is likely effective ; 3-504 says Parties can waive their presentment rights and notice of dishonor. 3-504(a)(iv) & (b)(ii) b. Does it matter that it was in fine print? i. UCC does not really say. Under contract law it is probably okay means very little might consider unconscionability issue. 4. Problem 62 a. F walks down the street, his pockets stuffed with money and checks he had won during stud poker, when stopped by creditor, Mr. Holdit. H demanded payment of long due $50 obligation, and F indorsed over to him a check that F had won from D. F was named as payee on the check. After giving check to H, F thought better and contacted D, the drawer, and persuaded him to stop payment on check. H held onto check for six weeks and then took to bank, the CNB, and cashed it. CNB presented to drawee bank, which dishonored it, where upon CNB reclaimed its money from H. H sued F on indorsers obligation. b. Was F discharged by the delay in presentment? i. 3-415(e) indorser not liable if check not cashed w/in 30 days of indorsement (provision isnt applicable if presentment is excused) (1) Presentment excused here on couple of grounds: (i) Indorser had no reason to expect instrument to be paid and (ii) Drawer instructed drawee not to pay c. Was delay excused w/in the meaning of 3-504(a)(iv)? d. Discharge is based on 3-415(e) (indorser only on the hook 30 days after the indorsement is made) i. Has this check been presented for payment? (1) No b/c presentment was excused, under 3-504(a)(iv) therefore the 30 day clock has not stopped, it is still running. 5. Makel Textiles v. Dolly Originals a. Court found that D President Goldberg knew that the notes could not be and were not paid from corporate funds. Under these circumstances the

44

obligation to serve Goldberg w/ notice of dishonor and non-payment was unnecessary. b. Goldberg already knew the checks would be dishonored. I. The Drawees Obligation A. In General 1. No one is liable for an instrument unless they have signed it or have had a representative sign the instrument 2. No ct has ever held that the pre-printed name of the bank makes them liable B. Problem 63 1. Fact: S brings action against ONB Bank but continues to bank with them. S writes check to Sue for 3,000 in alimony, and his balance greatly exceeds amount. S hurries to bank and presents. Manager at bank says S business no longer welcome and wont pay even though enough money in account. What should Sue do? a) Call Sam and tell him because hes obligated to pay her and has to figure ot a way to get her the money to satisfy obligaton 2. 3-401 3. The drawee (bank), not having signed the draft, is not liable on it. a) Liability stems from sigining it b) Banks are not liable on honoring a check just by presenting it c) IF the draft is dishonored, the Drawer is then obliged to pay the draft 4. Her recourse is against Sam, the drawer of the check, since the check has been dishonored; He is also probably liable b/c of the underlying obligation (the alimony pymt) when Sam wrote the check, that suspends the obligation until the bank cashes it; when the bank dishonored the check, the underlying obligation renewed 5. Exception: a) If the drawee accepts the draft, then the drawee takes liability on it 3413? b) Acceptance occurs when a drawee accepts the draft C. Norton v. Knapp (page 155) 1. Seller was the drawer; buyer was the drawee; and the payee was the sellers bank; Buyer writes kiss my foot and signs his name 2. Buyer is sued by the seller on his acceptors contract; Seller saying that buyer accepted the draft 3. Court says that writing kiss my foot is not an acceptance. It is clearly a nonacceptance. See 3-409 4. Advantage of suing on the instrument: a) It clearly says what the amt is; the underlying agreement isnt always clear about how much has owed 5. Reason why you might see a draft like this: a) Buyer and seller are far apart (ex: Hong Kong and L.A.) b) Seller ships the goods w/a draft c) S HKB LAB Buyer d) Letter of Credit goes along with the draft Issued by the L.A. Bank e) The L.A. Bank is guaranteeing payment D. Gaylen Petroleum Co. v. Hixson (page 157)

45

1. Hixson wrote checks to Gaylen; Bank did not accept the checks; Instead, the Bank exercised their right to collect on a note that Hixson had w/the bank; 2. The Bank did not accept the checks; therefore, they are not liable 3. In General, a bank that bounces checks cannot be held liable by the payee, so long as the bank did not accept the check E. Certification 1. Whoever certifies takes on the liability of an acceptor; a certification is acceptance F. Problem 64 (page 160) 1. Facts: G gave check ($5,000) to C church for planned building. C did not want to cash until it had at least $20,000 in pledges. C didnt want to back out either so lawyer suggested to checks certified. This would make the certifying bank liable on the check. C treasurer takes check down to drawee bank and asks to get it certified, a presentment for acceptance. Bank refused saying never certifies gift checks. What should Cs lawyer suggest now? a) Cash the checks when received, Always good practice to do it asap. If C presents for payment and bank refuses that would be dishonor. b) No, not dishonored. See 3-409(d) refusal to certify is not dishonor of the check.; If a bank decides not to certify a check, is it a dishonor? NO 3-409(d); Certifying a check is an option of the bank; A check is dishonored when a check is presented for pymt and the bank refuses c) (Part B) You either cash them or you dont (keep them) and present them for payment later (1) Always good to cash the checks as soon as possible 2. If bank had certified but later refused to pay it, could church sue G on his drawers obligation? Same result if G donated a certified check that the bank later dishonored? a) (Part C) No, could not go after drawer George. 3-414(c): If a draft is accepted by a bank, the drawer is discharged, regardless of when or by whom acceptance was obtained. ( & once bank certifies the check, theyve taken the liability) b) Same result if G donates a certified check. If a draft is accepted by bank, the drawer is discharged, regardless when or by whom the acceptance was obtained. (1) What constitutes acceptance? 3-409(a) Acceptance smeans the drawees signed agreement on the instruemnet to pay a draft as presented. It must be written on the draft

II.Signature by an Agent
A. Issues: 1. When someone signs your name, are you liable? 2. When someone else signs their own name, as your agent, are they liable? B. Problem 65 (page 160) 1. Facts: J wanted to borrow money for businesss venture, so had his agent F negotiate the loan from WNB bank. When F signed the promissory note payable to the bank, he simply wrote name as F, agent and failed to mention name of principal J. Is J bound on note?

46

a) Represented Person J Biggley, Principal; Representative Finch, Agent b) Yes, Biggley is bound on this note. 3-402(a): the represented person is liable on the instrument, whether or not identified in the instrument. (1) Even if Finch left out Agent after his name, the principal is still liable on the note as long as they can show that Finch was an agent of Biggley (2) An exception to the parole evidence rule is that you can always prove agency (3) OC 1: Under [this section] the principal would be liable on the note because agent was authorized, agent signed in authorized capacity and principal should be bound even his name not present on the instrument C. Problem 66 (facts same as above) 1. Finch would be liable to a HDC who took the instrument w/out notice of the agency agreement due to Fs failure to name principal a) A HDC should be able to resolve any ambiguity against the representative 2. Finch cannot try to prove otherwise; the only thing Finch could do is prove that the HDC had notice 3. How should the Agent sign: a) 1) Disclosing his agency status and 2) Disclosing the principal b) If both of the above are done, the representative is not liable (1) Ex: Finch, Agent for Biggley 4. Would Finch be liable to the Bank, a non-HDC? a) He will have to prove that he was binding B and not himself D. Mundaca Investment Corp. v. Febba (page 161) 1. The Ds intended to bind the trust on the promissory notes (ex: ___name___, trustee); this is ambiguous; therefore, they are liable to a HDC 2. Mundaca bought from the FDIC, the FDIC was a HDC by federal rule; therefore, through the Shelter Rule, Mundaca has the rights on a HDC E. Problem 67 1. Facts: President of Money Corp. was John Smith, He signs three corporate promissory notes as follows: a) John Smith (money corp not mentioned in the note) b) Money Corp, John Smith c) Money Corp, John Smith, President (1) In each case is JS liable to a HDC of the instrument? 2. Corporation is liable if it could be proved that he was intending to sign for the corporation; the principal is always bound if you can prove that the signature was intended to bind the principal; Smith is bound to a HDC, but can introduce evidence against a non-HDC; Most likely John Smith is liable here because there is ambiguity 3-402 3. Corporation is liable if it could be proved that the Corporation was intending to be bound by the signature; Smith is bound b/c he didnt state that he was an agent it is ambiguous; Smith is bound to a HDC, but can introduce evidence against a

47

non-HDC; Most likely liable here because looks like co-makers 3-402 Keys are that JS does not identify himself as an agent and he his signing in that capacity. 4. Corporation is liable; Smith is not bound against a HDC; its clear that hes signing in a business capacity; however, it could be more clear; should have put Money Corp. by John Smith, President. 3-402 Form is unambiguous that it was made on behalf of represented person and the reprsentd person is identified in the instrument. F. Problem 68 1. K was corporate pres. Of FRS comp. and corp. checks has words FRS printed on the upper left hand corner of the checks but when k signs checks on drawers line, he simply signs his name and did not sign the name of the company or in any way indicate that signing as agent. If check negotiated to HDC and then dishonored by drawee bank, is K personally liable? 2. Not liable because check says its for the company. 3-402c a) Dealing with checks, agent can sign check without indication agency statues b) Note: Key here: check identifies the represented person 3. OC 3: Virtually all checks written today identify the account upon which the funds are being drawn a) the agent who signs on the signature line does not have to indicate agency status. G. Nichols v. Seale (page 165) 1. It would come out differently today 2. Carl Nichols is liable to a HDC; he did not show that he is signing in a representative capacity; it looks hes a co-maker 3. 3-402(b) identifying the principal dont have to get the technical name of the business right (i.e. business name is Mr. Carls Fashion, Inc., but wrote The Fashion Beauty Salon)

Chapter 5: Banks and Their Customers

I. The Checking Account A. Properly Payable Rule: Customer authorizes payment and payment complies with bank customer agreement 1. So in essence, bank is required to honor check (that is properly payable) unless bank wants to be liable to customer for any damages that might result from dishonoring a check that is properly payable 2. You authorize the bank to pay money out of your acct if they do exactly as you instruct a) Things that arent properly payable: Forged drawers signature or a forged indorsement, for example 3. Only authorized to pay money out of your acct if you have signed the check, for the amt written by you, and only to the person you wrote it to a) 4-401(a) OC #1 An item containing a forged drawers signature or forged indorsement is NOT properly payable 4. If they do not follow this, then they have to reimburse you (recredit your account)

48

5. Overdraft: 4-401(a): A bank may charge against the acct of a customer an item (check) that is properly payable from the acct even though the charge creates an overdraft a) But failure to honor such check would NOT be a wrongful dishonor b) 4-402(a) ,but a bank may dishonor an item that would create an overdraft unless it has agreed to pay the overdraft c) Customer not liable for overdraft amount if customer (1) neither signed item (2) NOR benefited from items proceeds 4-401(b). (3) OC#2 If more than one customer can draw on an account, the non-signing customer is not liable for an overdraft unless that person benefits from the proceeds of that item. 6. Post Dated Checks: a) Bank may honor post-dated checks UNLESS customer provides bank with notice of post-dated check 4-401(c). b) B. Problem 69 (page 171) 1. Facts: Bank paid on a post-dated check, creating an overdraft 2. 4-401(c) Banks are allowed to pay a post-dated check, unless the customer has given notice to the bank of the postdating describing the check w/reasonable certainty; if you dont notify the bank, then you are just trusting the person you wrote the check to not to cash the check until the post-dated date. 3. The notice doesnt have to be written; although, the bank could require written notice C. 4-103: The effect of the provisions of this Article may be varied by agreement; as long as not manifestly unreasonable D. Problem 70 1. Facts: J lost checkbook; checks were cashed that he had not written; 2. The checks are not properly payable; the bank will have to re-credit the acct; however, you may have to prove that it was not your signature (you have the burden of proof) 3. Banks cannot charge for a stop-payment order b/c the check cannot be properly payable from the customers acct; therefore, its not fair; 4-401(a) OC1 4. The bank may suggest to the customer that they close that checking acct and open a new one; however, if a customer doesnt want to do that, the bank will just have to flag the checks by check number and dishonor the ones that come in w/out being compensated by the customer for that service E. Reasons a Bank would not honor a check 1. Forged or missing Drawers signature 2. Forged or missing indorsement 3. Insufficient funds 4. Post-date (if bank notified) 5. Old/stale checks

49

6. Death or Incompetence of the drawer 7. Set-off (related to insufficient funds) 8. Stop payment order F. Wrongful Dishonor: 1. IF a bank does dishonor a check and its not authorized by any of the above reasons, then it is a wrongful dishonor and a customer may recover all actual damages 4-402 a) Note: Bank may refuse to pay an item that would create an overdraft in customers account (this is not a wrongful dishonor) 2. Bank is liable to customer for damages proximately caused by the wrongful dishonor of an item a) Liability limited to actual damages b) Damage assessment and proximate cause is a factual assessment determined by cases by case basis 3. Under 4-402(c ) - Bank only required to check one time to determine if customer has sufficient funds to honor check. a) Bank has discretion to make such determination at any time between banks receipt of item, and banks return of item. G. Problem 71 (page 171) 1. Widow Douglas will prevail in her argument. The instrument needs to be properly payable, not appear properly payable. An item containing a forged drawers signature or forged endorsement is not properly payable. OC 1. 2. It was a forged endorsement; it was not properly payable; 3. What about the $10? No, b/c it wasnt properly payable in any amt; the $10 still went to the wrong person; if Ben was the one that presented it, then the $10 was properly payable; however, that isnt the case here 4. The bank will have to re-credit her acct for the full $1000 and will also be liable for the wrongful dishonor of all subsequent checks H. Problem 72 1. Facts: No drawers signature on the check; it was a telecheck check was stamped drawers signature on file 2. If no drawers signature, then the bank is not suppose to honor the check; bank would argue that the signature can be done by an agent and it doesnt have to be the drawers name; if drawer authorized someone to sign and intended for it to be their signature, then there is a strong argument that the check it to be honored I. Problem 73 1. Facts: G had written a check 8 years ago; he was gone for a long time, then the check was cashed. 2. His argument will not succeed. According to 4-404, the bank may charge its customers acct for a pymt [presented more than 6 mos. after its date] in good faith. 3. The creation of an overdraft did not keep the check from being properly payable. 4-401(a); It is done at the banks discretion 4. No, a bank doesnt have to pay if it would cause an overdraft. The bank may just dishonor the check, unless it agreed to pay the overdraft. 4-402(a)

50

5. If found that the bank did not act in good faith, he must file suit 3 years after the cause of action accrues. 4-111. Since it has been 8 years, his time it up. 6. 3-118(c): A bank cannot cash a check after 10 years II. Wrongful Dishonor: 4-402 A. Issues: 1. Who is the customer? 2. Under what circumstances does wrongful dishonor arise? a) If a bank accepts a forged check, which brings the acct to $0, then legitimate checks are bounced, all of the legitimate checks that were bounced were wrongfully dishonored b) Computer says you dont have enough money when you actually do 3. What can you recover? a) Mental anguish damages, punitive damages, actual damages B. Twin City Bank v. Isaacs (page 174) Damages 1. Facts: Isaacs checkbook was stolen; they notified bank; bank thought the Isaacs had something to do with the stolen checks; bank froze acct; The Isaacs got a lot of money from the jury; the bank appealed; Court affirmed C. Problem 74 1. Facts: Parties going to get divorce; Hs checks bounced; H went to hospital for an ulcer; however he didnt prove injurys cause. 2. The banks liability is limited to actual damages proved; H doesnt have anything to link the injury to the cause; therefore, the court should grant the banks motion for directed verdict D. Problem 75 1. This is a wrongful dishonor. 4-402 states a payor bank wrongfully dishonors an item if it dishonors an item that is properly payable Here, the check is properly payable and there is no mention that it would cause an overdraft; 2. A dishonor is simply when you are a holder of a check and present it for payment; if its a proper presentment and the drawee bank doesnt pay it, then its a dishonor 3. 4-103(a): The effect of the provisions of this Article may be varied by agreement as long as the agreement is reasonable. III. Death or Incompetence of Customer A. Problem 76 1. Facts: H dies after dropping check in mail; W tells bank to pay checks; neighbor says stop pymt b/c shes the heir. 2. The bank will have to stop paying checks since a person claiming an interest in the acct ordered the stop; if this wouldnt have happened, then they could pay for 10 days after the date of death. 4-405 3. If the bank is informed that a person is incompetent, the bank should just freeze the account IV. Banks Right of Setoff A. Lawful set off: Setoff may be had only against general accts (such as checking and savings) of the depositor B. Unlawful setoff: Bank may not set off against a special acct

51

C. If unlawful setoff, the bank will have to reimburse the money that was set off, might have tort liability, and if resulted in bounced checks, then there was a wrongful dishonor of all or those check D. Walter v. National City Bank of Cleveland (page 181) 1. R has a bank acct; R owed the bank on a 90-day promissory note that was not yet due; W gets a judgment against R; W gets the court to issue a writ of garnishment to the bank for them to pay Ws judgment; Bank get the garnishment order and decided to set-off against the promissory note and then tells W that there isnt enough $ in the acct to satisfy the judgment; W sues the bank claiming that the setoff was illegal 2. Rule: a) Bank can setoff against matured obligations b) Banks cant setoff against unmatured obligations (1) Exception: if the depositor is insolvent, then you can setoff even against unmatured obligations equity favors the bank since they hold the money (a) Exception to exception: if the bank created the debt, and made the loan when the debtor was already insolvent, then the bank cannot use the money and cannot setoff here, equity does not favor the bank V. Customers Right to Stop Payment: 4-403 A. Stop Payment 1. Ordinary Checks (4-403) right to Stop Payment is a service which depositors expect and are entitled to receive, notwithstanding its difficulty. Only the banks customers or persons authorized to draw on the account can make a stop payment order 4-403. A payee or indorsee has no right to issue a stop payment order, 4-403, OC#2. a) ANY person authorized to draw on the account may issue a stop payment under 4-403(a). b) Losses arising through failure to stop or close should be borne by banks as a cost of the business of banking. 2. Elements a) Must give notice (written good for 6 months if confirmed in record, oral good for 14 days) and reasonable opportunity to act. (1) Once the notice expires, a bank may pay the check in good faith as if the stop payment order was never given b) Must identify with reasonable certainty (1) Account, number, amount (a) If cant give exact account depends on what court says. (i) Some courts say Some bank programs, programmed to flag the EXACT amount. Others provide a range (ii) Some courts wont let bank off the hook by absolving bank if customer cant provide the EXACT amount

52

(iii) Other courts will look at what bank told the customer i.e. we need the EXACT amount to flag the check. (2) Takes into consideration prevailing practices and protocol widely used bank technology, etc. (3) The more complete and accurate the description Greater likelihood court will rule in customers c) Burden of establishing loss is on the customer. d) Where Stop Orders may not be issued (1) Cashiers checks (2) Tellers checks (3) Certified or accepted checks (a) Rationale: In all these situations the bank is the primary obligor and thus you cant order a stop payment on something that is no longer your obligation 3. How Long do Stop Payment Last: a) Written- 6 months as long as confirmed (1) Stop payment order only good for 6 months unless renewed (a) What about 4-404 [BANK NOT OBLIGATED TO PAY CHECK MORE THAN SIX MONTHS OLD] (i) NOTE: Bank Not OBLIGATED to pay. But they arent prevented from paying either. (ii) Bank may charge its customers account for a payment made thereafter in good faith. b) Oral- 14 days 4. Midnight Deadline Rule: a) Under 4-302(a)(1), bank has until midnight of following day to decide whether to honor check b) General Rules for Banks: (1) When checks are presented for payment, they have a limited time in which to act on the check. Either (a) Honor the check by paying or crediting the account; OR (b) 2) Notifying the presenting bank of dishonor 5. What circumstances can you order stop payment: a) 4-403 does not put any caveats as to when or under what circumstances a customer can issue a stop payment order. (1) If dishonored due to stop payment order by drawer, who can the payee go after: (a) Drawee not liable on the instrument as drawee did not sign the instrument. (b) But Can GO AFTER DRAWER. (i) Drawers liability is triggered when draft dishonored 6. If Valid Stop Payment is not complied by Bank, what damages entitled to collect:

53

a) Bank is liable to customer for paying an item where a valid stop payment order was issued 4-403(c) (1) Customer has burden of establishing the fact and amount of loss 4-403(c) (a) Ex: Wouldnt have had to pay for meal or other checks wouldnt have bounced (2) Customers losses may include damages for dishonor of subsequent items under 4-402. VI. Funds Availability A. Regulation CC (Funds Availability) 1. 229.10 For items that qualify for next day availability (provided that its a business day, M-F- dont forget that holidays could make it even longer) a) Cash (if personally handed over to teller) (1) Cash deposits made in person to bank employee shall be made available no later than the business day following the deposit date 229.10(a)(1) (a) Rationale: (i) Bank needs at least a day to check things out. (a) Is account overdrawn? (b) Are there previous checks that have been presented for payment on Chucks Account? b) Electronic payments (1) Electronic payments shall be made available no later than the NEXT business day following the deposit date - 229.10(b) (2) c) Low risk items (1) Cashiers Checks (if personally handed over to teller): 229.10(c)(v) requires that cashiers checks be made available for withdrawal the business day following the day on which the cashiers check was deposited. (a) Cashiers check must be deposited (i) Into account held by Payee. (ii) In person to a depositary bank employee. (iii) With a special deposit slip or deposit envelope (so that the check can be flagged as a cashiers check vs. a regular check MICR cant distinguish) (2) Check drawn on branch A and Deposited in Branch B of same bank available on next business day -229.10(c)(vi) (a) Note: Only If both branches are located in the same state or same check processing region - 229.10(c)(vi) (3)For checks that dont have next day availability - 229.10(c) (vii) requires bank to give next day access to customer in amounts equal to the LESSER of (a) $100 (if total more than $100) or

54

(b) The aggregate deposit amount (if total less than $100) (i) Rationale: Want to make at least some money available in timely manner so customer can function and transact business. (a) 4. 229.12 Availability Schedule (for those items that do not qualify for next day availability) a) Local checks (1) The first $100 of a days deposit must be made available for either cash withdrawal or check writing purposes at the start of the next business day 229.10(c)(1)(vii) (2) Generally, with local checks, bank must make deposited funds fully available for check writing purposes on the second business day following the banking day on which funds are deposited 229.12(b)(1) (3) $400 of the deposit must be available for cash withdrawal (or purchasing a cashiers check) no later than 5 p.m. on the second business day following deposit (This is in addition to the $100 which must be made available on the business day following deposit) (4) The remainder of the deposit must be made available for cash withdrawal (purchase a cashier check) at the start of the business the following day (so then technically third business day) b) Non-local checks (1) The first $100 of a days deposit must be made available for either cash withdrawal or check writing purposes at the start of the next business day 229.10(c)(1)(vii) (2) If non local check, then bank would be required to make funds fully available for check writing purposes by the 5th business day following the deposit date - 229.12(c). (3) $400 of the deposit must be available for cash withdrawal (or purchasing a cashiers check) no later than 5 p.m. on the fifth business day following deposit (This is in addition to the $100 which must be made available on the business day following deposit) (4) The remainder of the deposit must be made available for cash withdrawal (purchase a cashier check as well) at the start of the business the following day (so then technically sixth business day) 5. Exceptions a) New Accounts b) Large Deposits H. Cash 1. Cash Deposits- available the next business day if made in person to a bank employee

55

2. Cash Deposits- available the second business day if not made in person to a bank employee 3. Electronic Payment (wire transfers) available the next business day I. Checks 1. Government and Bank Checks- available the next business day if made in person to a bank employee 2. Local Checks- drawn on banks in same geographical region- served by same Check processing center) available no later than 2 business days after deposit 3. Non local checks available no later than 5 days after deposit III. Check Collection System A. Customer opens up an account at bank and deposits money B. Customer begins writing checks C. How does check make its way to the Payor bank 1. Once check reaches payor bank a) Payor bank required to settle with presenting bank by midnight of day on which check presented b) But settlement is provisional only c) Payor bank then has until midnight of the following day to decide whether to honor the checks (1) Midnight Deadline Rule: (a) Payor bank has until midnight of the following day to decide what to do with check (i) Looks at whether drawer has an account, has a stop payment order been issued, does drawer have sufficient funds, (ii) if bank doesnt dishonor, then all provisional settlements become final

56