Chapter 4 Lesson C - Negotiable Instruments

Introduction of the Host

Mrs.Geetha Dasaraty is a commerce graduate with a Masters in Business Administration specialising in finance. Her stint with a Coimbatore based company and later with a consulting firm in Chennai has provided her with a decade of experience in project finance and appraisals, accounting and tax laws. She is a freelance writer and money matters are her forte. She is currently pursuing her final course in Company Secretaryship and is doing a course on Vaishnavism. She has a passion for literature and Carnatic music. She is also a violinist.

In the previous two lessons on banking, we saw what banking was all about and the different types of banks that are in existence. In this lesson we will get to know what negotiable instruments are.
In today's business world, negotiable instruments are a powerful medium of settling accounts between parties.

What are Negotiable Instruments?
A negotiable instrument is an instrument of credit that has features of negotiability.
Negotiable instrument means promissory notes, bills of exchange or cheque, payable either to order or bearer.
A bearer instrument is one, which can be transferred by mere delivery whereas an order instrument is one, which can be transferred by endorsement and delivery.

Characteristics of Negotiable Instruments
Negotiability: A negotiable instrument is one that can be transferred from one person to another. The person who transfers the instrument is the transferor and the person to whom it is transferred is the transferee. In the case of a negotiable instrument, the transferee gets an absolute title free from all defects, if he is the holder in due course. A person is said to be the holder in due course, where he gets the instrument in good faith, for a valid consideration and without negligence.
Payment of cash: A negotiable instrument is a written contract for the payment of a definite sum of money only. These instruments are for the payment of cash only and not for any other purpose. A negotiable instrument can be used as an evidence of indebtedness.
Transferability: Transferability is the special character of a negotiable instrument. The transfer of a negotiable instrument implies the transfer of ownership from the transferor to the transferee. A negotiable instrument can be transferred by delivery or by endorsement and delivery. Where the instrument is a bearer instrument, the instrument can be transferred by mere delivery and where the instrument is an order instrument it can be transferred by endorsement and delivery.
Definite period of time: The negotiable instrument is payable on or before a specified date. The holder of a negotiable instrument can, on a future date sue in his own name for enforcing any claim on the basis of the instrument.
The amount stated on the instrument can be claimed on the due date without any prior notice.

Presumptions:

• Every negotiable instrument is made, endorsed or negotiated for consideration only. Where there is no consideration, there is no obligation to pay.
• Every negotiable instrument should bear a date and the instrument is presumed to be issued on that date.
• A bill is said to be accepted within a reasonable time.
• Every transfer of a negotiable instrument is said to be made before its maturity.
• The endorsements appearing on a negotiable instrument are made in the order in which they appear.
• A promissory note or Bill of Exchange should be duly stamped. A cheque need not be stamped.
• A holder of an instrument is the holder in due course.

Promissory Notes:
Where goods are purchased on credit , the buyer agrees to pay on demand or on a specified date, the agreed amount by drawing a promissory note, also commonly called a pro-note. The person who agrees to pay the money is the promissor and the person in whose favour it is drawn is the promisee.

Features of a Promissory Note

• It should be in writing and drawn by the debtor. It should be signed by the maker (i.e.) the promisor.
• There should be an unconditional promise to pay a certain sum of money.
• The money should be made payable on demand.
• It cannot be made payable on demand to the bearer.
• A pro-note cannot be crossed.
• The amount on it can be made payable in instalments.
• The instrument should be stamped. Where interest is charged it should be calculated from the date of the bill until realisation of the amount.

Bill of exchange
A Bill of Exchange is a common credit instrument in business. A bill of exchange is an instrument in writing containing an unconditional order signed by the maker, directing a certain person to pay certain sum of money any to or to the order of a certain person or to the bearer of the instrument.

Features of a Bill of Exchange

• It should be in writing.
• There should be an unconditional order to pay a certain sum of money.
• It may be drawn payable to bearer
• It becomes enforceable only on acceptance by the drawee within a reasonable time.
• There are usually three parties to a bill of exchange-Drawer, drawee and payee. Sometimes the drawer and the payee may be the same person when there are two parties to the bill.
• It can be dishonoured by non-acceptance or non-payment.
• It should be stamped unless it is made payable on demand.
• It may be made payable in instalments and can be renewed for an extended period.
• Advance payment can be accepted at a rebate.
• A Bill of Exchange may be made payable on demand or after sometime. Where a bill is made payable on demand it is called a Demand Bill and where it is for a specific time it is known as a Time Bill.
• On the basis of place bills are classified as trade bill or accomodation bill.

Cheques
A cheque is a bill of exchange drawn on a specified banker and not expressed to be payable otherwise than on demand. Like a Bill of Exchange there are three parties to a cheque-drawer, drawee and payee. A cheque is drawn only on a banker and hence the drawee will always be a banker.

Features of a cheque

• A cheque should be in writing and should contain an unconditional order to pay
• A cheque should be drawn only on the branch in which the customer has an account.
• A cheque is drawn for the payment of money only.
• A cheque should be signed by the drawer or by any person duly authorised by him.
• The payee must be certain. A payee is a person who is entitled to receive money from the bank.
• A cheque may be made payable to a certain person or order or bearer. An order cheque is one which is payable only to a specific person or to whom he orders. Where a cheque is drawn without specifying a person it is a bearer cheque.
• A cheque should be dated. A banker will make the payment on the cheque either on the date specified or on any subsequent date but not before. A cheque is valid for six months.
• The amount of money to be paid should be clearly specified in words and figures.
• Bills of exchange, promissory notes and cheques must be presented for payment. Where the instrument is not presented for payment, the other parties are not liable to the holder.

Questions on Chapter 4 Lesson B

1. What are the primary functions of commercial banks?
2. What are the agency services provided by commercial banks?