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PBI - Unit 2 Lecture Notes

The document discusses negotiable instruments such as promissory notes, bills of exchange, cheques, and hundis. It defines each type of instrument, describes their key features, and provides examples. Promissory notes contain an unconditional promise to pay, while bills of exchange contain an order to pay. Cheques are drawn on a bank by its customer and can be open, crossed, bearer, or order. Hundis are local negotiable instruments used in India. The document also discusses circumstances that could lead to dishonour of a cheque.

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0% found this document useful (0 votes)
109 views42 pages

PBI - Unit 2 Lecture Notes

The document discusses negotiable instruments such as promissory notes, bills of exchange, cheques, and hundis. It defines each type of instrument, describes their key features, and provides examples. Promissory notes contain an unconditional promise to pay, while bills of exchange contain an order to pay. Cheques are drawn on a bank by its customer and can be open, crossed, bearer, or order. Hundis are local negotiable instruments used in India. The document also discusses circumstances that could lead to dishonour of a cheque.

Uploaded by

alpesh sakaria
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd
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UNIT II: Dr.

Sandeep Kr Singh,
Assistant Professor,
NEGOTIABLE INSTRUMENTS Dept. of Commerce,
CHRIST University
Email: [email protected]
INTRODUCTION
-Large number of transactions involving huge sums take place everyday. It is
inconvenient and risky for either party to make/receive cash payments.
-Common practice for businessmen to make use of certain documents as means of
making payment, known as negotiable instruments. Such instruments have certain
distinctive features:
-Easily and freely transferable by endorsement. Not much of paperwork.
-All negotiable instruments must be in writing – handwritten, printed, typed, engraved.
-A negotiable instrument must bear the signature of its maker.
-In every negotiable instrument there must be an unconditional order or promise to pay.
-Timing of payment must be certain. Not a convenient date, but a specific date.
-The payee must also be certain, whether it is a real person or an artificial person.
-Stamping of Bills of Exchange and Promissory Notes is mandatory.

Sandeep KS Lecture Notes


HUNDIS
A Hundi is a negotiable instrument by local usage.
It is often in the form of a bill of exchange or a promissory note drawn in any local language in
accordance with the custom of the place.

Types of Hundis
There are a variety of Hundis that were used in our country, in earlier times.
Shah-jog Hundi: This is drawn by one merchant on another, asking the latter to pay the amount
to a Shah. Shah is a respectable and responsible person, a man of worth in the bazaar.
Darshani Hundi: This is a hundi payable at sight. It must be presented for payment within a
reasonable time after its receipt by the holder. This is similar to a demand bill.
Muddati Hundi: A Muddati or Miadi hundi is payable after a specified period of time; similar to a
time bill.
There are few other varieties like Nam-jog Hundi (Name), Furman-jog Hundi (Order), Dhani-jog
Hundi (Bearer), Jawabee Hundi, (Acknowledgement), Jokhami hundi (Conditional), etc.
Sandeep KS Lecture Notes
Sandeep KS Lecture Notes
TYPES of NI
Section 13 of the Negotiable Instruments Act, 1881 states that a negotiable
instrument can be of three types:

I) Promissory note - Instrument in writing containing an unconditional


undertaking signed by the maker to pay a certain sum of money only to or
to the order or to the bearer of instrument.

Prashant who has bought books worth Rs. 10000/on credit from Ritesh
gives an undertaking stating that after three month he will pay the amount
to Ritesh. Now, Ritesh can retain that document with himself till the end of
three months or pass it on to others for meeting certain business
obligation.

Sandeep KS Lecture Notes


FEATURES

I) There are primarily two parties involved in a promissory note. They are –
Drawer, Payee.
II) A promissory note must be in writing, duly signed by its maker and properly
stamped as per Indian Stamp Act. 1899.
III) It must contain an undertaking or promise to pay. Mere acknowledgement of
indebtedness is not enough.
IV) The promise to pay must not be conditional.
V) It must contain a promise to pay money only.
VI) A promissory note may be payable on demand or after a certain date.

Sandeep KS Lecture Notes


Sandeep KS Lecture Notes
II) Bill of exchange - Instrument in writing containing an unconditional order
signed by the maker directing a certain person to pay a certain amount only to
or to the order of a certain person or to the bearer of instrument.

Ritesh may write an order addressed to Prashant that he is to pay after three
months, for value of goods received by him, Rs.10000/- to Ritesh or anyone
holding the order and presenting it before him for payment. This written
document has to be signed by Prashant to show his acceptance of the order.
Now, Ritesh can hold the document with him for three months and on the due
date collect the money from Prashant.

Sandeep KS Lecture Notes


FEATURES

I) A bill must be in writing, signed by its drawer.


II) A bill must be accepted by its drawee and properly stamped as per Indian
Stamp Act.
III) It must contain an order to pay. Words like ‘please pay Rs 5,000/ and oblige’
are not used.
IV) The order must be unconditional.
V) The order must be to pay money and money alone.
VI) The sum payable mentioned must be certain or capable of being made certain.
VII) The parties to a bill must be certain – drawer, drawee and payee.

Sandeep KS Lecture Notes


Sandeep KS Lecture Notes
III) Cheque - An order by the account holder of the bank directing his
banker to pay on demand, the specified amount, to or to the order of the
person named therein or to the bearer.

If Prashant issues a cheque worth Rs. 10000/in favour of Ritesh, then


Ritesh can claim Rs. 10000/- from the bank, or he can transfer it to anyone
else to meet any business obligation, like paying back a loan that he might
have taken from someone. Such transfers may continue till the payment is
finally made to somebody.

Sandeep KS Lecture Notes


FEATURES

I) A cheque must be in writing and duly signed by the drawer.


II) It contains an unconditional order.
III) It is issued on a specified banker only.
IV) The amount specified is always certain and must be clearly mentioned both in
figures and words.
V) The payee is always certain.
VI)A cheque is always payable on demand.
VII) The cheque must bear a date otherwise it is invalid and shall not be honored
by the bank.

Sandeep KS Lecture Notes


Sandeep KS Lecture Notes
TYPES OF CHEQUES
Open cheque:
A cheque is called ‘Open’ when it is possible to get cash over the counter at the bank. The
holder of an open cheque can take cash, deposit the cheque in his own account or endorse
it to some one else by signing on the back.

Crossed cheque:
The payment of such cheque is not made over the counter at the bank. It is only credited
to the bank account of the payee. A cheque can be crossed by drawing two transverse
parallel lines across the cheque, with or without the writing ‘Account payee’ or ‘Not
Negotiable.’

Blank cheque:
Cheque is signed without mentioning the amount. Payee name and date may or may not be
mentioned. If the customer wants, limits can be assigned.

Sandeep KS Lecture Notes


Bearer cheque:
A cheque which is payable to any person who presents it for payment at the bank counter is
called ‘Bearer cheque’. A bearer cheque can be transferred by mere delivery and requires no
endorsement.

Order cheque:
An order cheque is one which is payable to a particular person. In such a cheque the word
‘bearer’ may be cut out or cancelled and the word ‘order’ may be written. The payee can
transfer an order cheque to someone else by signing his or her name on the back of it.

Ante-dated cheque:
Cheque in which the drawer mentions the date earlier to the date of presenting for payment.

Cancelled cheque:
When you make errors in filling the cheque or you want to pass on information regarding bank
details.

Sandeep KS Lecture Notes


Stale Cheque:
A cheque which is issued today must be presented before at bank for payment within a
stipulated period (3 months). After expiry of that period, no payment will be made and it is
then called ‘stale cheque’ or outdated cheque.

Post-dated Cheque:
Cheque on which drawer mentions a date subsequent to the date on which it is presented is
called post-dated cheque. Cheque issued on 8th May, 2019 bears a date of 25th May 2019.

Self Cheque:
Used to withdraw cash from your own account.

Mutilated Cheque:
A cheque which is crushed, soiled, torn or damaged and is presented for payment.

Sandeep KS Lecture Notes


CIRCUMSTANCES FOR DISHONOUR OF CHEQUES

Dishonor of cheques means the bank doesn’t act on the order of payment. Also known as
‘cheque bouncing.’ Main reasons include:

Insufficient funds: The cheque amount exceeds the amount that can be paid by the bank.

Minimum balance: Exceeds the minimum balance requirement of the bank.

Hierarchy of payments: Cheque amount higher than amount arranged to be paid from
the account by earlier agreement.

Stop Payment: Once the cheque has been drawn and issued to the payee and the payee
has presented it, ‘stop payment’ instructions will lead to dishonour.

Sandeep KS Lecture Notes


Closure of Account: The account holder has closed his account by the time the cheque was
presented for payment.

Irregular signature: The signature of the drawer does not match the specimen signature
available with the bank.

Stale cheques: A cheque presented three months from the date written on it is called a stale
cheque. Should not be entertained.

Alterations: No alteration is permitted in the payee name, amount. The drawer signs near it
to verify any alteration.

Frozen Account: If a court or government orders that a customer’s account has to be


frozen, the bank will dishonor any cheque presented on behalf of that customer.
Sandeep KS Lecture Notes
PRECAUTIONS BEFORE HONORING A CHEQUE

I. The banker must honour cheques only till the amount of credit balance in the
customer’s account.

II. The cheque must be in proper format. It must satisfy the essential features
mentioned in the NI Act.

III. The drawer’s signature must match with the specimen signature. In case of
any discrepancies, contact the customer.

IV. Must not be a stale cheque – a cheque that has been in circulation for a very
long period. Take confirmation from the drawer.

Sandeep KS Lecture Notes


V. Must not be a post dated cheque – a cheque which bears a date later than the one on
which the cheque is actually presented. Banker will be held liable to the drawer:
 For the amount.
 For damage to his credit.

VI. The amount must be clearly specified, both in words and figures. Sec 18 of the Act
says that in case of difference in both, the amount mentioned in words is the payable
amount. However, the banker is justified in returning the cheque.

VII. The banker should be careful when mutilated cheques are presented for payment.
Could be accidental or intentional. Should procure drawer’s confirmation before
approving it.

VIII. In case of a crossed cheque, the banker must not commit the mistake of making a
cash payment across the counter.

Sandeep KS Lecture Notes


IX. Any form of material alterations must be checked by the banker by confirming
the same with drawer. This includes
- Alteration of date.
- Alteration of payee.
- Alteration in signature.
- Alteration in the amount.

Alterations make a cheque void. In case of joint account, these alterations have to
be confirmed by both persons, unless of course one party has the authority to
sign cheques alone.

In case of corporate bodies, partnership firms and other committees, the same
rule for confirmation applies.

Sandeep KS Lecture Notes


DIFFERENCES BETWEEN THE THREE NEGOTIABLE INSTRUMENTS
CROSSING OF CHEQUE
Crossing of a cheque is nothing but instructing the banker to pay the specified
sum through the banker only, i.e. the amount on the cheque has to be deposited
directly to the bank account of the payee.

The crossing of a cheque is done by making two transverse parallel lines at the
top left corner across the face of the cheque.

The way a cheque is crossed specifies the banker on how the funds are to be
handled, to protect it from possible fraud and forgery.

Sandeep KS Lecture Notes


TYPES OF CROSSING
GENERAL CROSSING
A cheque is said to be crossed when across the face of a cheque two transverse
parallel lines are drawn at the top left corner, with or without certain words,
between the two lines. In such a scenario, cash cannot be paid to the payee; the
money is credited to the account of the person mentioned or to whom it is further
endorsed. Can be transferred to any person.

Sandeep KS Lecture Notes


SPECIAL CROSSING
A cheque in which the name of the banker is written, across the face of the
cheque in between the two transverse parallel lines, with or without using the
word ‘not negotiable’. This type of crossing is called a special crossing. Amount
can be credited only to a bank account in the named bank.

Sandeep KS Lecture Notes


ACCOUNT PAYEE CROSSING
Amount can only be paid to the account of the named payee.
Cannot be transferred to another person.
Also known as Restrictive Crossing.

Sandeep KS Lecture Notes


Who is authorized to cross a cheque?

Mainly by the Drawer of the cheque himself/herself.

When a cheque is open or uncrossed in nature, the holder of the cheque may
cross it at a later date.

When a cheque is crossed, the holder may add the words ‘not negotiable’ to stall
future transferability of the cheque.

Sandeep KS Lecture Notes


GENERAL CROSSING SPECIAL CROSSING
Drawing of two parallel transverse lines Drawing of two parallel transverse lines is
is a must. not essential.

Inclusion of the name of a banker is not Inclusion of the name of a banker is


essential. essential.

The paying banker will honor the cheque The paying banker honors the cheque only
from any bank account, as no bank’s name when it is presented through the bank
mentioned in the crossing.
finds a mention.

Can be converted into Special Crossing. Can’t be converted to General Crossing.

Use of the words “& Co” or “Not Inclusion of these words “& Co” or “Not
Negotiable” between the lines to highlight Negotiable” between the lines has become
the crossing does not carry significance. customary.
ENDORSEMENT
Endorsement process involves signature of the drawer or holder of an instrument
for the purpose of negotiation or transferability, under the Negotiable
Instruments Act, 1881.

Signed on the back of the instrument or the face, or on a slip of paper annexed to
the instrument. Slip of paper attached to the instrument for negotiation is known
as ‘allonge.’

The endorsee gets a valid title to the cheque, who in turn can negotiate the
cheque to anyone else.

Sandeep KS Lecture Notes


The transferor warrants to the transferee or any other holder in the future that
when the cheque left his hands;

- He had a good title to it,


- It was a genuine instrument,
- Any prior endorsement were genuine.

Thus, if the cheque is dishonoured, the holder can sue any or all of the previous
parties and recover the amount.

When an endorser, after he has negotiated an instrument, again becomes a holder


before its maturity, the instrument is said to be negotiated back to that holder. In
case of negotiation back, the original endorser does not have the right to sue
intermediate parties.

Sandeep KS Lecture Notes


TYPES OF ENDORSEMENT
Blank Endorsement– No mention of endorsee. The endorser merely puts his signature. A
cheque so endorsed becomes payable to the bearer. An endorsement may be in favour of
another individual or legal entity.
We can convert a blank endorsement into an endorsement in full by writing above the
endorser’s signature, a direction to pay the instrument to another person. Example: A bill
of INR 5000 is payable to X. X endorses the bill by simply affixing his signature. This is an
endorsement in blank by X. In this case the bill becomes payable to bearer.

Sandeep KS Lecture Notes


Endorsement in Full– Where the endorser puts his sign and writes the name of
the person who will receive the payment. Endorser adds a direction to pay the
amount specified in the instrument to, or to the order of, a certain person. Also
known as Special Endorsement. The specified person i.e. the endorsee then
becomes the payee of the instrument. Example: Pay to Ramesh Pawar or Order.

Conditional Endorsement– Dependent on the happening of a specified event. For


example: Pay C if he returns from London. Thus C gets the right to receive
payment only on the happening of a particular event, i.e. if he returns from
London.

Restrictive Endorsement – One which restricts further negotiation of the


cheque. Endorsee has the right to receive payment but not to endorse it to
others. Example - Pay X only, Pay X for deposit only, Pay to Bank for deposit to
account ####
Sandeep KS Lecture Notes
Partial Endorsement – One which proposes to transfer to the endorsee only a
part of the amount payable. Such endorsement is considered invalid. Example: Mr.
Mohan holds a bill for Rs. 5,000 and endorses it as “Pay Sohan or order Rs.
2500”. The endorsement is partial and invalid.

Facultative Endorsement – One where the endorser waives some right to which
he is entitled. For ex: Notice of dishonor.

Sans Frais Endorsement – Use of the phrase ‘sans recourse’ in the cheque
(without recourse to me). It excludes the liability of the endorser. The endorsee
cannot take endorser to court. When the property in a negotiable instrument is
transferred sans recourse, the endorser excludes himself from responsibility to
all subsequent endorsees Example: If A (endorser) signs a bill containing a sans
recourse clause with B (endorsee) and B signs an agreement with Party C over
the same instrument, and it is dishonored, then B cannot seek payment from A.

Sandeep KS Lecture Notes


DUTIES OF PAYING BANKER
The paying banker must ensure special attention to:

Format– Whether it is in the right format or not.


Specimen Signatures– Whether the signatures match with the specimen.
Minimum balance- Whether minimum balance requirement is followed.
Alterations- Whether there have been any material changes made.
Stale/ Post dated cheques– To not accept them.
Death, Insanity, Bankruptcy of the issuer– Follow instructions to see there’s no foul play.
Order cheque gets lost- Follow the instructions of the issuer of cheque.
Garnishee order- Court’s order attaching the funds of the debtor in the hands of the third
party (garnishee) to pay the money to the creditor.
(For example – There are three parties: A is supposed to pay B an amount of 1 lakh but A has
defaulted on the payment. If B comes to know that A has an alternate source of income from
C, he can approach the Court for an arrangement where C will pay him the amount).
Sandeep KS Lecture Notes
PROTECTION TO PAYING BANKER
Banker is given protection in case of cheques, only if he has made payment in due
course. This means:

I) Payment must be made according to the intention of the parties. In case of a crossed
cheque, if the paying banker pays cash across the counter. Or when bank pays against a
post dated cheque before due date.

II) Payment must be in good faith, without negligence. Payments made against forged
signatures, mutilated cheques and unformatted cheques are not acceptable.

III) Payment must be made under circumstances which do not afford a reasonable ground
for believing that the person presenting the cheque is not entitled to receive payment. Ex:
Paying against a cheque that has been stalled.

Sandeep KS Lecture Notes


MONEY PAID BY MISTAKE

Can the banker recover the amount?

If the money was paid under a mistake of law, the banker cannot recover it. For
example – Paid against a stale cheque, ignoring the law surrounding it. Ignorance
of law is never an excuse.

If the money is paid under a mistake of fact, the banker has the right to recover
the amount, albeit under certain conditions.

If the receiver is aware that he/she is not entitled to the money, the banker’s
right of recovery is indisputable.

Sandeep KS Lecture Notes


However, if the receiver acts in good faith and transfers the money thus received
to a third party, the banker loses the right to recovery.

When the mistake of fact lies between the banker and the drawer, the banker
cannot recover the money paid to an innocent holder. Ex: When a banker
discovers after paying against a cheque that the customer had no balance in his
account.

In case of third party deposits in a specific customer’s account, the banker


cannot reverse the transfer without the approval of the customer. For example:
While paying for a certain transaction, if someone wrongly credited your account,
the bank will have to seek your permission before initiating any kind of refund
transaction.

Sandeep KS Lecture Notes


COLLECTING BANKER

Collecting banker is a banker who collects cheques drawn upon other bankers on
behalf of his customer.

Holder for value: A collecting banker becomes a holder for value if he pays his
customer even before the cheque is cleared. This is generally not advisable but
practiced for priority customers.

Agent: A collecting banker acts as an agent of the customer on crediting the


account of the customer only after the cheque is cleared. This is an acceptable
norm.

Sandeep KS Lecture Notes


HOLDER IN DUE COURSE
A person who:

Is in possession of a NI,
Obtains possession of the NI before maturity,
Obtains possession of the instrument for valuable consideration. (Must be lawful)
Must have obtained the instrument in good faith, i.e. no defect existed in the title
of the endorser from whom he derived the title.

Sandeep KS Lecture Notes


DUTIES OF COLLECTING BANKER

Due care and diligence in the collection of cheques. Must present the cheque
within reasonable time. In case the collecting banker and the paying banker are
same, it should be presented by next day (Cheque truncation).

Notice to customer in case of dishonour of cheque within a reasonable time. If


he fails to give such a notice, the collecting banker will be liable to the customer
for any loss that the customer may have suffered on account of such failure.

Substituted agent - In case a cheque is associated with a bank which is not a


member of the ‘clearing-house’, the bank may employ another banker who is a
member of the clearing-house for the purpose of collecting the cheque. Here, the
banker becomes a substituted agent.

Sandeep KS Lecture Notes


Credit the proceeds of the cheque to the account of the customer at the
earliest. The relationship between principal and agent comes to an end and the
new relationship between creditor and debtor will begin.

Should undertake the duty of collection only for its own customers, not
strangers.

There is no legal obligation for a banker to collect the bills of exchange for
its customer. But, generally, bank gives such facility to its customers, mainly
institutional customers. This is also known as bills discounting, whereby the bank
will earn some money in the form of commission for taking on a risk.

Sandeep KS Lecture Notes


MAJOR FOCUS AREAS
Negotiation Back
Allonge
Ante-dated cheque
Crossed Cheque
Holder in Due Course
Payment in Due Course
Duties of a Collecting Banker
Reasons for dishonoring of a cheque
Payment in Due course
Types of Endorsement
Sandeep KS Lecture Notes

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