PowerPoint Slides to Accompany
CONTEMPORARY BUSINESS AND
ONLINE COMMERCE LAW
5th Edition
by Henry R. Cheeseman
Chapter 19
Creation and Transfer of
Negotiable Instruments
Slides developed by
Les Wiletzky
Wiletzky and Associates
Copyright © 2006 by Pearson Prentice-Hall. All rights reserved.
Negotiable Instruments (1 of 2)
 To qualify as a negotiable instrument
(commercial paper), the document must
meet certain requirements established by
Revised Article 3 (Negotiable Instruments)
of the Uniform Commercial Code (UCC)
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19 - 2
Negotiable Instruments (2 of 2)
 If the requirements of Article 3 are met, a
transferee who qualifies as a holder in due
course takes the instrument free of many
defenses that can be asserted against the
original payee
 In addition, the document is considered an
ordinary contract that is subject to contract
law
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Functions of Negotiable Instruments
 Negotiable instruments serve the following
functions:
Substitute for money
 Credit device
 Record-keeping device

 Most purchases by businesses and many
individuals are made by negotiable
instruments instead of cash
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Types of Negotiable Instruments
Instrument
 Term that means
negotiable instrument
[UCC 3-104(b)]
Revised Article 3
recognizes four finds
of instruments:
1. Drafts
2. Checks
3. Promissory Notes
4. Certificates of
Deposit
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Drafts (1 of 2)
 A draft is a three-party instrument that is
an unconditional written order by one
party that orders the second party to pay
money to a third party

Drawer of a draft

Drawee of a draft

Payee of a draft
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Drafts (2 of 2)
Time Draft
 A draft payable at a
designated future
date
Sight Draft
 A draft payable on
sight
 Also called a demand
draft
 Trade Acceptance –
a sight draft that
arises when credit is
extended with the
sale of goods
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Checks
 A distinct form of draft drawn on a
financial institution and payable on
demand

Drawer of a check

Drawee of a check

Payee of a check
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Promissory Notes
 A two-party negotiable instrument that is
an unconditional written promise by one
party to pay money to another party
Maker of a note
 Payee of a note

 Types of notes:
 Time note
 Demand note
 Collateral
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Certificates of Deposit (CD)
 A two-party negotiable instrument that is a special
form of note created when a depositor deposits
money at a financial institution in exchange for the
institution’s promise to pay back the amount of the
deposit plus an agreed-upon rate of interest upon
the expiration of a set time period agreed upon by
the parties
Maker of the CD
 Payer of the CD

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Summary: Types of Negotiable
Instruments (1 of 2)
Instrument:
Orders to
Pay
Party
Description of Party
Draft
Drawer
Drawee
Person who issues the draft
Person who owes money to the drawer; person who is ordered
to pay the draft and accepts the draft
Person to whom the draft is made payable
Payee
Check
Drawer
Drawee
Payee
Owner of a checking account at a financial institution; person
who issues the check
Financial institution where drawer’s checking account is
located; party who is ordered to pay the check
Person to whom the check is made payable
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Summary: Types of Negotiable
Instruments (2 of 2)
Instrument:
Promises to
Pay
Party
Description of Party
Promissory
Note
Maker
Payee
Party who issues the promissory note; usually the borrower
Party to whom the promissory note is made payable; usually
the lender
Certificate of
Deposit (CD)
Maker
Payee
Financial institution that issues the certificate of deposit
Party to whom the certificate of deposit is made payable;
usually the depositor
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According to UCC 3-104(a), a negotiable
instrument must:
 Be in writing
 Be signed by the maker or drawer
 Be an unconditional promise or order to pay
 State a fixed amount of money
 Not require any undertaking in addition to the
payment of money
 Be payable on demand or at a definite time
 Be payable to order or to bearer
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Summary: Formal Requirements for a
Negotiable Instrument (1 of 4)
Requirement
Description
Writing
Writing must be permanent and portable. Oral or
implied instruments are nonnegotiable [UCC 3104(d)].
Signed by maker or
drawer
Signature must appear on the face of the instrument.
It may be any mark intended by the signer to be his or
her signature. Signature may be by an authorized
representative [UCC 3-104(a)].
Unconditional promise or
order to pay
Instrument must be an unconditional promise or order
to pay [UCC 3-104(a)]. Permissible notations listed in
UCC 3-106(a) do not affect instrument’s negotiability.
If payment is conditional on the performance of
another agreement, the instrument is nonnegotiable.
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Summary: Formal Requirements for a
Negotiable Instrument (2 of 4)
Requirement
Description
Fixed amount of money
Fixed amount: Amount required to discharge the
instrument must be on the face of the instrument
[UCC 3-104(a)]. Amount may include payment of
interest, discount, and costs of collection.
Revised Article 3 provides that variable interest rate
notes are negotiable instruments.
In money: Amount must be payable in U.S. or foreign
country’s currency. If payment is to made in goods,
services, or non-monetary items, the instrument is
nonnegotiable [UCC 3-104(a)].
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Summary: Formal Requirements for a
Negotiable Instrument (3 of 4)
Requirement
Description
Cannot require any
undertaking in addition to
the payment of money
A promise or order to pay cannot state any other
undertaking to do an act in addition to the payment of
money [UCC 3-104(a)(3)]. A promise or order to may
include authorization or power to protect collateral,
dispose of collateral, waive any law intended to
protect the obligee, and the like.
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Summary: Formal Requirements for a
Negotiable Instrument (4 of 4)
Requirement
Description
Payable on demand or at
a definite time
Payable on demand: Payable at sight, upon
presentation, or when no time for payment is stated
[UCC 3-108(a)].
Payable at a definite time: Payable at a definite date,
or before a stated date, a fixed period after a stated
date, or at a fixed period after sight [UCC 3-108(b)(c)].
Instrument payable only upon the occurrence of an
uncertain act or event is nonnegotiable.
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Nonnegotiable Contract
 A promise or order to pay that does not
meet the requirements of a negotiable
instrument
 It is not subject to the provisions of UCC
Article 3
 A nonnegotiable contract can be enforced
under normal contract law
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Transfer by Assignment or
Negotiation
Transfer by Assignment
Transfer by Negotiation
 The transfer of rights
 The transfer of a
under a contract
negotiable instrument by a
person other than the
 It transfers the rights of the
issuer
transferor (assignor) to
the transferee (assignee)  The person to whom the
instrument is transferred
becomes the holder
 Negotiating order paper
 Negotiating bearer paper
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Indorsement
 The signature (and other directions)
written by or on behalf of the holder
somewhere on the instrument
 The signature may:
Appear alone
 Name an individual to whom the instrument is
to be paid; or
 Be accompanied by other words

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Types of Indorsements (1 of 3)
Type of
Indorsement
Description
Blank
Does not specify a particular indorsee.
This indorsement creates bearer paper.
Special
Specifies the person to whom the indorser intends the
instrument to be payable.
This indorsement creates order paper.
Unqualified
Does not disclaim or limit liability.
The indorsee is liable on the instrument if it is not paid by
the maker, acceptor, or drawer.
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Types of Indorsements (2 of 3)
Type of
Indorsement
Description
Qualified
Disclaims or limits the liability of the indorsee. There are
two types:
1. Special qualified indorsement
2. Blank qualified indorsement
Nonrestrictive
No instructions or conditions attached to the payment of
funds
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Types of Indorsements (3 of 3)
Type of
Indorsement
Description
Restrictive
Conditions or instructions restrict the indorsee’s rights.
There are four types:
1. Conditional indorsement
2. Indorsement prohibiting further indorsement
3. Indorsement for deposit or collection
4. Indorsement in trust
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Misspelled or Wrong Name
 Where the name of the payee or indorsee
is misspelled in a negotiable instrument,
the payee or indorsee can indorse the
instrument in the misspelled name, the
correct name, or both
 A person paying or taking the instrument
for value or collection may require a
signature in both the misspelled and the
correct name [UCC 3-204(d)]
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Multiple Payees or Indorsees
Payable Jointly
 An instrument that is
payable to two or more
persons with and between
their names
 All their indorsements are
required to negotiate the
instrument
Payable in the Alternative
 An instrument that is
payable to two or more
persons with or between
their names
 Only one of their
indorsements is required
to negotiate the instrument
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Forged Indorsement
 Forged Indorsement – the forged signature
of a payee or holder on a negotiable
instrument
 Generally, the person who took the check
from the forger is liable on a forged
indorsement
 There are two exceptions:
The Imposter Rule
 The Fictitious Payee Rule

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Forged Indorsement: Exceptions to
the General Rule
The Imposter Rule
 A rule that says if an
imposter forges the
indorsement of the
named payee, the
drawer or maker is
liable on the
instrument and bears
the loss
The Fictitious Payee Rule
 A rule that says that a
drawer or maker is
liable on a forged or
unauthorized
indorsement of a
fictitious payee
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