Negotiable Instruments Act, 1881 

TOPIC: What is a cheque, promissory note, and bill of exchange

A brief history

The NI Act is not a newly drafter post-colonial act. It dates back to the colonial rule and has remained largely unchanged. It was first drafted in 1866 by the 3rd Indian law commission however, due to constant objections by select committees and suggestions by new law commissions, it had to be redrafted almost four times after which it was finally passed in 1881. The most important credit instrument that gained maximum popularity in India was the Hundi. It represents the oldest surviving form of credit instruments and thus, it has also been mentioned under Section 1, Negotiable Instruments Act, 1881.

What are Negotiable Instruments

As per Section 13, a negotiable instrument means a promissory note, bill of exchange or cheque payable either to order or to bearer. It is important to note that A negotiable instrument may be made payable to two or more payees jointly, or it may be made payable in the alternative to one of two, or one or some of several payees. Negotiable instruments are transferable signed documents which promise the mentioned recipient a specified sum of money.

Clearly there are 3 major negotiable instruments governed by this act. Other than these, today, 2 major modes of payment have emerged, namely, NEFT and RTGS.

How are negotiable instruments different from other modes of transaction?

In case of negotiable instruments, the recipient gets a title distinct from that of the drawer and in good faith. He gets a good title even if the title of the transferor might be suffering from a defect.

CHEQUE

As per section 6 of the Negotiable Instruments Act 1881,

“A cheque is a bill of exchange drawn on a specified banker and not expressed to be payable otherwise than on demand.” It includes both, “the electronic image of a truncated cheque and a cheque in the electronic form.” It is one of the safest and most convenient ways to make payment as it is transferred from one party to another by mere delivery.

What makes a cheque valid and a few features:

  1. There are two parties involved, namely the drawer and the payee. Drawer is the person that makes the cheque and signs it in the name of another person. Payee is the person in whose name the cheque has been drawn. For example, A draws a cheque dated 20 November 2021 on ABC bank Ltd. for amount 50,000 to be paid to B. Here A is the drawer, and B is the payee.
  2. It must be dated.
  3. The amount must be mentioned in words as well as in figures.
  4. It must be in writing and should be signed and accepted by drawee. It must be stamped.
  5. Payee knows that the cheque has been drawn on him. The cheque must have the name of the payee.
  6. It must be drawn on a specified bank.
  7. It contains an unconditional order. Unconditional order: This means that the payment of the face value mentioned in the cheque is not based on any pre required condition. It is a clear order for payment and not a request or authorization seeking fulfillment of any condition by the payee.

There are various types of cheques such as open cheque, crossed cheque, bearer cheque, self cheque, account payee cheque, ante-dated cheque, stale cheque, etc.

BILL OF EXCHANGE

As per Section 5 of NI Act 1881,

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.

3 parties are involved in a Bill of exchange: Drawer, drawee and the payee. Drawer is the person that is essentially the maker of the bill. He may direct the drawee to pay the sum to a specific person or may direct him to pay the sum to the drawer itself. Drawee is the person making the payment and payee is the person receiving the payment.

For example, X orders Y to pay ₹ 75,000 for 90 days after date and Y accepts this order by signing his name, then it will be a bill of exchange. Here, X is the drawer as well as the payee as he is the one receiving payment and Y is the drawee.

What makes a Bill of Exchange valid:

  1. It must be a written document.
  2. It must clearly name all the parties i.e., the drawer, drawee and the payee.
  3. It must be signed by the drawer.
  4. It must clearly specify the due date.
  5. Must clearly state the amount due.
  6. It must be an unconditional order to pay.

There are a few advantages that bills of exchange offer that make it a convenient mode of payment, such as, it offers discounting facility, it is easy to recover the amount as it serves as a legally binding contract in writing, it is easily and safely transferrable, there is certainty to payment, endorsable to other parties.

PROMISSORY NOTE

As per section 4 of the Negotiable Instruments Act 1881,

A “Promissory note” is an instrument in writing (not being a bank-note or a currency-note) containing an unconditional undertaking, signed by the maker, to pay a certain sum of money only to, or to the order of, a certain person, or to the bearer of the instrument.

The note attests the validity of the lender and promises the credit worthiness of the borrower, since a promissory note only promises the repayment of the loan or credit that has been lent.

It is written between the three financing parties The Maker: This person is responsible to make or execute a promissory note and he also pays the required amount, The Payee: the person to whom the note is payable, The Holder: The holder is responsible to hold the notes. He is either the payee or some other person.

A Promissory note certainly includes the following items: no. of the Promissory note, date when the note was issued is specified, name of the Payee and the maker, principal Amount, interest rate being charged- In case interest is being charged on the lent or borrowed amount, the note must mention the rate of interest which will be calculated on the basis of APR (annual percentage rate), maturity date- It is the date when the loan is due and payment must be received, and any collateral that will be put up. Once all of these conditions have been included the promissory note has been signed by both parties, it then meets the elements of a legally binding contract. Further, it can then be used as a legal tool to bind borrower to an agreement for purchasing goods or borrowing money.

What makes a Promissory Note valid and a few features:

It is valid and enforceable when the following essentials are satisfied:

  1. A Promissory note must be in writing. The aim of this condition is to exclude oral promises from the horizon of the Act.
  2. It must include a promise/undertaking to pay a certain sum of money. The mere use of the word ‘debt’ or ‘pronote’ to recognize indebtedness or an implicit promise is insufficient.
  3. There must be an unconditional promise to pay. If it is uncertain then it is an invalid Promissory note.
  4. It must be appropriately signed, stamped and delivered by the maker.
  5. The maker and the payee party should be certain and identified.
  6. The sum payable must be certain and must not be capable of Contingent additions or subtractions.

COMPARING THE THREE NEGOTIABLE INSTRUMENTS:

CHEQUEBILL OF EXCHANGE
Only a banker can be a drawee in this case.According to section 19 of the NI ACT, 1881 Cheque is always payable on demand. A Cheque can be crossed to end its validity.A Cheque requires no acceptance.Anyone can be the drawee, including the banker in this case. In this case it is either payable on demand or after a specified date. Whereas Bill of Exchange cannot be crossed. A bill of Exchange acceptance is required.
PROMISSORY NOTEBILL OF EXCHANGE
There is unconditional promise to pay in the case of a promissory note.There is involvement of two parties- (a)The Maker, (b)the Payee.Herein, acceptance is not required as it is signed by the person who is liable to pay. The liability of the maker/drawer is primary and absolute in nature.  Whereas in this case there is an unconditional order to make the payment.In this case there are three parties involved: (a)drawer (b)drawee and (c)payeeHowever, here drawer is a creditor so it must be accepted by the drawee.The liability of the maker/drawer is secondary and conditional in nature.

REFERENCES

https://cleartax.in/g/terms/promissory-note

https://www.srdlawnotes.com/2017/11/promissory-note-meaning-definition-and.html

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