FIN 324

NEGOTIABLE INSTRUMENTS
(NEGOTIABLE INSTRUMENTS ACT, 1881)

MEANING OF NEGOTIABLE INSTRUMENTS

According to Section 13 (a) of the Act, “Negotiable instrument means a
promissory note, bill of exchange or cheque payable either to order or to bearer,
whether the word “order” or “ bearer” appear on the instrument or not.” In the
words of Justice, Willis, “A negotiable instrument is one, the property in which
is acquired by anyone who takes it bonafide and for value notwithstanding any
defects of the title in the person from whom he took it”. Thus, the term, negotiable
instrument means a written document which creates a right in favour of some
person and which is freely transferable.

Although the Act mentions only these three instruments (such as a promissory
note, a bill of exchange and cheque), it does not exclude the possibility of adding
any other instrument which satisfies the following two conditions of negotiability:
i. the instrument should be freely transferable (by delivery or by
endorsement. and delivery) by the custom of the trade; and
ii. the person who obtains it in good faith and for value should get it free from
all defects, and be entitled to recover the money of the instrument in his
own name.

As such, documents like share warrants payable to bearer, debentures payable

to bearer and dividend warrants are negotiable instruments. But the money
orders and postal orders, deposit receipts, share certificates, bill of lading, dock
warrant, etc. are not negotiable instruments. Although they are transferable by
delivery and endorsements, yet they are not able to give better title to the
bonafide transferee for value than what the transferor has.

A negotiable instrument is therefore a signed document that promises a sum of

payment to a specified person or the assignee. A transferable, signed document
that promises to pay the bearer a sum of money at a future date or on-demand.
The payee, who is the person receiving the payment, must be named or otherwise
indicated on the instrument.
 A negotiable instrument is a signed document that promises a sum of
payment to a specified person or the assignee.
 Negotiable instruments are transferable in nature, allowing the holder to
take the funds as cash or use them in a manner appropriate for the
transaction or according to their preference.
 Common examples of negotiable instruments include cheques, money
orders, and promissory notes.

Negotiable instruments are transferable in nature, allowing the holder to take

the funds as cash or use them in a manner appropriate for the transaction or
according to their preference. The fund amount listed on the document includes
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a notation as to the specific amount promised and must be paid in full either on-
demand or at a specified time. A negotiable instrument can be transferred from
one person to another. Once the instrument is transferred, the holder obtains a
full legal title to the instrument. These documents provide no other promise on
the part of the entity issuing the negotiable instrument. Additionally, no other
instructions or conditions can be set upon the bearer to receive the monetary
amount listed on the negotiable instrument. For an instrument to be negotiable,
it must be signed, with a mark or signature, by the maker of the instrument—
the one issuing the draft. This entity or person is known as the drawer of funds.

Negotiable instruments are issued by parties to fulfill their payment obligations.

They serve as a guarantee that the person making and signing such a document
as the payee shall be under an obligation to pay the specified amount of money
to the mentioned person or the assignees, or the holder of the instrument at a
certain future date or at demand. The document can be transferred by the holder
to another person by signing the endorsement and such another person shall
get the legal title for such an instrument and be entitled to claim money from the
person who had signed in the capacity of the payer. These endorsements are
usually made by the holders to meet their debt obligations.

FEATURES/REQUIREMENTS OF NEGOTIABLE INSTRUMENTS

The concept of negotiability is one of the most important features of commercial
paper, a contract for the payment of money. A negotiable instrument is a written
document, signed by the maker or drawer that contains an unconditional
promise to pay a certain sum of money on delivery or at a definite time to the
bearer. It is essentially a piece of paper that can be transferred multiple times
from one person or entity to another without the use of actual cash. A check that
can be endorsed multiple times by different parties is an example of a negotiable
instrument. Each time the check is endorsed and given to another, it represents
payment to that party. Because of this feature, negotiable instruments are highly
trusted and are used daily by millions of people.

The features of negotiable instruments include the following:

1. Must be in writing. The writing can be on anything that is readily
transferable and that has a degree of permanence. Negotiable Instruments
must be written according to the rules relating to Promissory Notes, Bills of
Exchange and Cheques.

2. Must be signed by the maker or drawer. The signature can be anyplace on

the instrument. · It can be in any form (such as word, mark or rubber stamp)
that purports to be a signature and authenticates the writing. · It can be
signed in a representative capacity.

3. Must be a definite order or promise to pay. A promise must be more than

a mere acknowledgement of a debt. · The words “I/We Promise” or “Pay” meet
this criterion.
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4. Unconditional Payment. Payment cannot be expressly conditional upon the
occurrence of an event. Payment cannot be made subject to or governed by
another agreement. Payment cannot be paid out of a particular fund (except
for a government issued instrument). The promise or instruction to pay shall
be unconditional and the payment shall not be subjected to any condition or
upon the occurrence or non-occurrence of any uncertain event.

5. Definite Amount i.e must be an order or promise to pay a sum certain. An

instrument may state a sum certain even if payable in installments, with
interest, at a stated discount or at an exchange rate. The amount to be paid
shall be clearly mentioned without any ambiguity and an instrument without
any definite amount shall be invalid. Inclusion of cost of collection and
attorney’s fees does not disqualify the statement of a sum certain.

6. Payable in money. Any medium of exchange recognized as the currency of

a government is money. The maker or drawer cannot retain the option to pay
the instrument in money or something else. Negotiable instruments are
payable by legal tender money. The liabilities of the parties of Negotiable
Instruments are fixed and determined in terms of legal tender money. The
mode of payment shall be money only and non-monetary payments shall not
form part of negotiable instruments. Such as the payment can’t be made in
bonds, shares, gold coins, and so on.

7. Certainty in Time of Payment: Any instrument payable on sight,

presentation or issue is a demand instrument. · An instrument is payable at
a definite time even though it is payable on a stated date, or within a fixed
period after sight, or the drawer or maker has an option to extend time for a
definite period. The time at which the payment will be made by the payer
shall be certain and determinable even if it is not any specific date. It should
mention either the specified date or a determinable event upon which the
payment shall be made.

8. Must be payable to order or bearer. An order instrument must name the

payee with reasonable certainty. An instrument whose terms intend payment
to no particular person is payable to bearer.

9. Transferrable: These instruments can be easily transferred by the holder to

another person either by delivery or by making a lawful endorsement. If the
payee is not mentioned in the instrument then the transfer can be made by
mere delivery and if the payee is mentioned then the transfer has to be made
by endorsement in the name of another person or assignee or bearer.

10. Right to Receive Payment: If the negotiable instrument is not honored

on the specified date and the holder of the instrument doesn’t get the
payment then the holder becomes entitled to take legal action against the
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 payer. This applies even if the instrument was not initially issued to the
holder but instead transferred.

11. Title of Transferee: The transferee of the negotiable instrument gets a

clear title to the instrument and is known as a “holder in due course”. This
means that the title of such a transferee who acquired the instrument by
legal means shall not be affected due to the flaw or illegality in the title on
account of the transferor or any other previous holder.

TYPES OF NEGOTIABLE INSTRUMENTS

Section 13 of the Negotiable Instruments Act states that a negotiable instrument
is a promissory note, bill of exchange or a cheque payable either to order or to
bearer. Negotiable instruments recognized by statute are can be broadly
classified into three types namely promissory notes, cheques, and bills of
exchange.

1. Promissory Notes (1881)

Section 4 of the Act defines, “A promissory note is an instrument in writing (note
being a bank-note or a currency note) containing an unconditional undertaking,
signed by the maker, to pay a certain sum of money to or to the order of a certain
person, or to the bearer of the instruments.”
These are the instruments that are signed by the payer and contain a promise
to pay a certain amount of money to another person, or his/her order, or to the
bearer of the instrument at a certain date. The promise to pay shall be
unconditional failing which the note shall not be called a promissory note. The
person making the note is known as the maker and the person to whom such
note is being made is called the payee. For example, A makes a promissory note
in writing to B stating that I shall pay N1million to B on 30th December, 2021
and signed the same.

Essential elements of Promissory Notes

An instrument to be a promissory note must possess the following elements:

1. It must be in writing: A mere verbal promise to pay is not a promissory note.

The method of writing (either in ink or pencil or printing, etc.) is unimportant,
but it must be in any form that cannot be altered easily.

2. It must certainly an express promise or clear understanding to pay: There

must be an express undertaking to pay. A mere acknowledgment is not enough.
The following are not promissory notes as there is no promise to pay.

3. Promise to pay must be unconditional: A conditional undertaking destroys

the negotiable character of an otherwise negotiable instrument. Therefore, the

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promise to pay must not depend upon the happening of some outside
contingency or event. It must be payable absolutely.

4. It should be signed by the maker: The person who promise to pay must sign
the instrument even though it might have been written by the promisor himself.
There are no restrictions regarding the form or place of signatures in the
instrument. It may be in any part of the instrument. It may be in pencil or ink,
a thumb mark or initials. The pronote can be signed by the authorised agent of
the maker, but the agent must expressly state as to on whose behalf he is
signing, otherwise he himself may be held liable as a maker. The only legal
requirement is that it should indicate with certainty the identity of the person
and his intention to be bound by the terms of the agreement.

5. The maker must be certain: The note self must show clearly who is the
person agreeing to undertake the liability to pay the amount. In case a person
signs in an assumed name, he is liable as a maker because a maker is taken as
certain if from his description sufficient indication follows about his identity. In
case two or more persons promise to pay, they may bind themselves jointly or
jointly and severally, but their liability cannot be in the alternative.

6. The payee must be certain: The instrument must point out with certainty
the person to whom the promise has been made. The payee may be ascertained
by name or by designation. A note payable to the maker himself is not pronate
unless it is indorsed by him. In case, there is a mistake in the name of the payee
or his designation; the note is valid, if the payee can be ascertained by evidence.
Even where the name of a dead person is entered as payee in ignorance of his
death, his legal representative can enforce payment.

7. The promise should be to pay money and money only: Money means legal
tender money and not old and rare coins. A promise to deliver paddy either in
the alternative or in addition to money does not constitute a promissory note.

8. The amount should be certain: One of the important characteristics of a

promissory note is certainty—not only regarding the person to whom or by whom
payment is to be made but also regarding the amount. However, paragraph 3 of
Section 5 provides that the sum does not become indefinite merely because (a)
there is a promise to pay amount with interest at a specified rate. (b) the amount
is to be paid at an indicated rate of exchange. (c) the amount is payable by
installments with a condition that the whole balance shall fall due for payment
on a default being committed in the payment of anyone installment.

9. Other formalities: The other formalities regarding number, place, date,

consideration etc. though usually found given in the promissory notes but are
not essential in law. The date of instrument is not material unless the amount
is made payable at a certain time after date. Even in such a case, omission of

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date does not invalidate the instrument and the date of execution can be
independently ascertained and proved.

2. Bills of Exchange (1990)

Section 5 of the Act defines, “A bill of exchange is an instrument in writing
containing an unconditional order, signed by the maker, directing a certain
person to pay a certain sum of money only to, or to the order of a certain person
or to the bearer of the instrument”. A bill of exchange, therefore, is a written
acknowledgement of the debt, written by the creditor and accepted by the debtor.
There are usually three parties to a bill of exchange drawer, acceptor or drawee
and payee. Drawer himself may be the payee.
Bills of exchange contain a direction or an order made by the maker of the
instrument instructing a certain person to pay a specified amount of money to
another person, or his/her order, or to the bearer of the instrument at a specified
date. The person making the instrument is known as a drawer and the person
on whom such instrument is drawn is known as drawee or the acceptor. The
payee may or may not be the drawer. For example, A draws a bill of exchange to
B in which it’s written that “Kindly pay to the bearer N10million on 30th
December, 2021 and oblige”.

Essential conditions of a bill of exchange

(1) It must be in writing.
(2) It must be signed by the drawer.
(3) The drawer, drawee and payee must be certain.
(4) The sum payable must also be certain.
(5) It should be properly stamped.
(6) It must contain an express order to pay money and money alone.

3. Cheques (1992)
Section 6 of the Act defines “A cheque is a bill of exchange drawn on a specified
banker, and not expressed to be payable otherwise than on demand”. A cheque
is bill of exchange with two more qualifications, namely, (i) it is always drawn on
a specified banker, and (ii) it is always payable on demand. Consequently, all
cheque are bill of exchange, but all bills are not cheque. A cheque must satisfy
all the requirements of a bill of exchange; that is, it must be signed by the drawer,
and must contain an unconditional order on a specified banker to pay a certain
sum of money to or to the order of a certain person or to the bearer of the cheque.
It does not require acceptance.

Cheques are the bill of exchanges that are drawn by the person making such
cheques on the specific bank instructing the bank to pay a certain amount of
money to a person mentioned therein on demand. The person signing the cheque
and making an instruction to the bank is known as the drawer, the bank
becomes the drawee and the person to whom payment is to be made is known
as the payee.

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Distinction Between Bills of Exchange and Cheque
1. A bill of exchange is usually drawn on some person or firm, while a cheque is
always drawn on a bank.

2. It is essential that a bill of exchange must be accepted before its payment can
be claimed A cheque does not require any such acceptance.

3. A cheque can only be drawn payable on demand, a bill may be also drawn
payable on demand, or on the expiry of a certain period after date or sight.

4. A grace of three days is allowed in the case of time bills while no grace is given
in the case of a cheque.

5. The drawer of the bill is discharged from his liability, if it is not presented for
payment, but the drawer of a cheque is discharged only if he suffers any damage
by delay in presenting the cheque for payment.

6. Notice of dishonour of a bill is necessary, but no such notice is necessary in

the case of cheque.

7. A cheque may be crossed, but not needed in the case of bill.

8. A bill of exchange must be properly stamped, while a cheque does not require
any stamp.

9. A cheque drawn to bearer payable on demand shall be valid but a bill payable
on demand can never be drawn to bearer.

10. Unlike cheques, the payment of a bill cannot be countermanded by the

drawer.

Distinction Between Bill of Exchange and Promissory Note

1. Number of parties: In a promissory note there are only two parties – the
maker (debtor) and the payee (creditor). In a bill of exchange, there are three
parties; drawer, drawee and payee; although any two out of the three may be
filled by one and the same person,

2. Payment to the maker: A promissory note cannot be made payable the maker
himself, while in a bill of exchange to the drawer and payee or drawee and payee
may be same person.

3. Unconditional promise: A promissory note contains an unconditional

promise by the maker to pay to the payee or his order, whereas in a bill of
exchange, there is an unconditional order to the drawee to pay according to the
direction of the drawer.
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4. Prior acceptance: A note is presented for payment without any prior
acceptance by the maker. A bill of exchange is payable after sight must be
accepted by the drawee or someone else on his behalf, before it can be presented
for payment.

5. Primary or absolute liability: The liability of the maker of a promissory note

is primary and absolute, but the liability of the drawer of a bill of exchange is
secondary and conditional.

6. Relation: The maker of the promissory note stands in immediate relation with
the payee, while the maker or drawer of an accepted bill stands in immediate
relations with the acceptor and not the payee.

7. Protest for dishonour: Foreign bill of exchange must be protested for

dishonour when such protest is required to be made by the law of the country
where they are drawn, but no such protest is needed in the case of a promissory
note.

8. Notice of dishonour: When a bill is dishonoured, due notice of dishonour is

to be given by the holder to the drawer and the intermediate indorsers, but no
such notice need be given in the case of a note.

Advantages of Negotiable Instruments

i. It is easier and more convenient for making payment of large sum of
money.
ii. Negotiable instruments are vital to the economy and are recognized
globally as a medium of payment.
iii. Negotiable Instruments plays a major role in the trade world and are also
used in the international trade
iv. Negotiable Instruments plays a major role in different part of the world in
raising the economy

Disadvantages of Negotiable Instruments

i. Negotiable Instruments are not legal tenders but only a legal document
and so no one is compelled to accept
ii. It brings about emotional and psychological discomfort to the creditor or
payee

NEGOTIATION
Negotiation may be defined as the process by which a third party is constituted
the holder of the instrument so as to entitle him to the possession of the same
and to receive the amount due thereon in his own name. According to section 14
of the Act, ‘when a promissory note, bill of exchange or cheque is transferred to
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any person so as to constitute that person the holder thereof, the instrument is
said to be negotiated.’

The main purpose and essence of negotiation is to make the transferee of a

promissory note, a bill of exchange or a cheque the holder thereof. Negotiation
thus requires two conditions to be fulfilled, namely:
1. There must be a transfer of the instrument to another person; and
2. The transfer must be made in such a manner as to constitute the transferee
the holder of the instrument.

Handing over a negotiable instrument to a servant for safe custody is not

negotiation; there must be a transfer with an intention to pass title.

Modes of negotiation
Negotiation may be effected in the following two ways:

1. Negotiation by delivery (Sec. 47): Where a promissory note or a bill of

exchange or a cheque is payable to a bearer, it may be negotiated by delivery
thereof. Example: A, the holder of a negotiable instrument payable to bearer,
delivers it to B’s agent to keep it for B. The instrument has been negotiated.

2. Negotiation by endorsement and delivery (Sec. 48): A promissory note, a

cheque or a bill of exchange payable to order can be negotiated only be
endorsement and delivery. Unless the holder signs his endorsement on the
instrument and delivers it, the transferee does not become a holder. If there are
more payees than one, all must endorse it.