Unit 4: Negotiable Instruments Act
Mercantile Law notes · PTU syllabus (BCOM 302-18)
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Unit summary
Cheques, bills and promissory notes move money in business. The Negotiable Instruments Act, 1881 governs them. This unit covers the meaning and characteristics of negotiable instruments, their classification, promissory notes and bills of exchange, acceptance and its types, cheques and penalties for dishonour, holder and holder in due course, and maturity.
After this unit you can
- Define negotiable instruments and explain their characteristics and classification
- Compare promissory notes, bills of exchange and cheques
- Explain acceptance and its types, holder and holder in due course
- Explain dishonour of cheques and maturity of instruments
PTU syllabus topics
- Meaning and characteristics of negotiable instruments
- classification
- promissory notes and bills of exchange
- acceptance and its types
- cheques and dishonour penalties
- holder and holder in due course
- maturity of an instrument
Promissory note
Maker and payee
A promise to pay
Bill of exchange
Drawer, drawee and payee
An order to pay; needs acceptance
Cheque
Drawer, bank and payee
An order on a bank, payable on demand
Topic 1
Meaning and characteristics
A negotiable instrument (Section 13) means a promissory note, bill of exchange or cheque payable either to order or to bearer.
Freely transferable
By delivery (bearer) or endorsement and delivery (order)
Title of holder in due course
Better title, free from defects of prior parties
Right to sue
Holder can sue in own name
Presumptions (Section 118)
Consideration, date, time of acceptance, transfer before maturity, holder in due course
In writing and signed
Classification
- Inland and foreign instruments (Sections 11–12).
- Bearer and order instruments.
- Demand and time (usance) instruments.
- Ambiguous instrument (may be treated as a note or bill — Section 17) and inchoate (incomplete, signed blank stamped paper — Section 20).
- Instruments negotiable by custom — hundis, government promissory notes, share warrants, dividend warrants.
Topic 2
Promissory notes and bills of exchange
Nature
Unconditional promise to pay
Unconditional order to pay
Parties
Two — maker and payee
Three — drawer, drawee, payee
Acceptance
Not required
Required for time bills
Liability of maker/drawer
Primary
Secondary (drawee primary after acceptance)
Noting and protest
Not needed
Needed for foreign bills on dishonour
- A promissory note cannot be made payable to bearer (RBI Act, Section 31) except by RBI/Central Government.
Example
"I promise to pay Ravi or order ₹50,000 three months after date for value received" — a promissory note. "Three months after date pay Ravi or order ₹50,000" addressed to Sunil — a bill of exchange.
Topic 3
Acceptance and its types
Acceptance is the drawee's signed assent on the bill to the order of the drawer; the drawee then becomes the acceptor.
General
Unconditional assent to the order as drawn
Qualified
Varies the effect of the bill — conditional, partial (part of the amount), local (at a particular place only), as to time, not by all drawees
Acceptance for honour (supra protest)
By a third party to save the honour of the drawer or endorser after protest
- The holder may refuse a qualified acceptance and treat the bill as dishonoured.
- Presentment for acceptance is necessary for bills payable after sight.
Topic 4
Cheques, crossing and dishonour
A cheque (Section 6) is a bill of exchange drawn on a specified banker and not expressed to be payable otherwise than on demand; includes the electronic image of a truncated cheque and a cheque in electronic form.
- Crossing: general (two parallel lines — pay only through a bank), special (bank named), account payee (credit only to the payee's account), not negotiable (transferee gets no better title).
- Validity: 3 months from the date of issue (RBI direction).
Dishonour of cheque — Section 138
- 1Cheque presented within validity and returned unpaid
Insufficient funds or exceeds arrangement
- 2Payee sends written demand notice within 30 days of information of dishonour
- 3Drawer fails to pay within 15 days of receiving notice
- 4Complaint filed within one month after cause of action arises
- 5Punishment
Imprisonment up to 2 years, or fine up to twice the cheque amount, or both
- Section 143A: court may order interim compensation up to 20% of the cheque amount.
- Section 148: in appeal, the appellant may be directed to deposit at least 20% of the fine or compensation.
- Offence is compoundable (Section 147).
Topic 5
Holder and holder in due course; maturity
- Holder (Section 8): a person entitled in their own name to possession of the instrument and to receive or recover the amount due. A finder or thief is not a holder.
- Holder in due course (Section 9): a holder who obtained the instrument for consideration, before maturity, and in good faith without sufficient cause to believe any defect existed in the title of the transferor.
Privileges of a holder in due course
- Gets a title free from defects of prior parties.
- Inchoate instrument: prior party cannot plead that it was filled in excess of authority.
- Every prior party is liable to them until the instrument is satisfied.
- Drawer and endorsers cannot deny the payee's capacity to endorse.
- Fictitious payee bill is payable to bearer.
Consideration
Not necessary
Necessary
Time
May be after maturity
Before maturity
Good faith
Not necessary
Necessary
Title
Subject to defects
Free from prior defects
Maturity (Sections 22–25)
- Maturity: the date on which the instrument falls due.
- Three days of grace are added to time instruments (not to demand instruments or cheques).
- Where the date falls on a public holiday, the instrument is payable on the preceding business day.
Example
A bill dated 1 January payable "two months after date" is nominally due on 1 March; adding three days of grace, it matures on 4 March (if 4 March is a holiday, on 3 March).
Key terms
- Negotiable instrument
- A freely transferable promissory note, bill or cheque
- Qualified acceptance
- Acceptance that varies the effect of the bill
- Crossing
- Lines on a cheque restricting payment to a bank account
- Holder in due course
- A holder for value, before maturity, in good faith
- Days of grace
- Three days added to the maturity of time instruments
Quick revision
- Section 13: notes, bills, cheques; payable to order or bearer.
- Note = promise, 2 parties; bill = order, 3 parties, acceptance; cheque = bill on a bank, on demand.
- Acceptance: general or qualified (conditional, partial, local, time, not by all).
- Section 138: notice within 30 days; payment within 15 days; up to 2 years or twice the amount.
- Maturity + 3 days of grace; holiday → preceding business day.
Important exam questions
Practice questions written to the PTU exam pattern for this unit's syllabus: short answers (Section A style) and long answers (Sections B and C style).
Short-answer questions
- Q1.Define a negotiable instrument.
- Q2.Distinguish a promissory note and a bill of exchange.
- Q3.What is a qualified acceptance?
- Q4.What is an account payee crossing?
- Q5.Who is a holder in due course?
- Q6.What are days of grace?
Long-answer questions
- Q1.Explain the characteristics and classification of negotiable instruments.
- Q2.Distinguish promissory notes, bills of exchange and cheques; explain types of acceptance.
- Q3.Explain the provisions relating to dishonour of cheques under Section 138.
- Q4.Explain holder and holder in due course and the privileges of a holder in due course.
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