What are the Negotiable Instruments? (Part 1)

By Eashaan Agrawal

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The primary purpose of negotiable instruments is that it allows a person to substitute a piece of paper for cash or designated banknotes for a specific purpose and thus enable ease in transferring money without actually dealing in cash. In India, the negotiable instruments are regulated by the Negotiable Instruments Act 1881.

Now, section 13 of Negotiable Instruments Act 1881 defines that a negotiable instrument means a promissory note, a bill of exchange or cheque.

In order to understand, in what cases do the rules governing negotiable instruments apply we have to understand what are actually promissory notes, bill of exchange, and cheques. In this article, we will also discuss some ancillary concepts related to these negotiable instruments.

 

Promissory Notes

Promissory Note in very basic terms is basically a promise by an individual to pay another person some amount of money in the future. Usually, promissory notes are used where the borrower promises to pay the lender some amount in the future. Promissory notes have been defined under section 4 of the Negotiable Instruments Act 1881. According to the act a promissory note has to meet the following criteria,

1.     The promise should be in writing

2.     The promise should not be a bank-note or currency note

3.     The promise should be unconditional

4.     The amount to be paid has to be certain

5.     The amount should be paid only to, or to the order of the certain person, or, to the bearer of the instrument (however, the Reserve Bank of India Act 1934 clearly prohibits a promissory note from being payable to the bearer of the instrument under section 31(2))

6.     The Note should be duly stamped

7.     Lastly, the note has to be signed by the maker.

 

 Bill of Exchange

The Bill of Exchange is basically a document that in which the maker instructs one party to pay another party some specified amount. Section 5 of the Negotiable Instruments Act 1881 defines the essentials of the bill of exchange. These are

1.     The instrument has to be in writing

2.     It should be unconditional

3.     It should be signed by the maker

4.     The instrument should direct another person (the person should be certain) to pay

5.     A certain amount

6.     The amount should be paid only to, or to the order of a certain person, or, to the bearer of the instrument.

 

What does ‘Certain’ Mean?

Section 5 specifies that the payment of the amount is not ‘conditional’ if the instrument makes the amount payable after the lapse of a certain time and the occurrence of a certain event, which both parties reasonably are certain of happening, although the time of occurrence might be uncertain.

The section also mentions that for the purpose of the instruments, amount to be paid is certain, even if it includes future interest or, is payable at a rate of exchange or, on the default of an installment the unpaid amount becomes due.

Finally, a person is held to be certain even if the instrument misnames the person or merely gives a description of the person.

The clarification is the part of section 5 so that any instrument entered into the normal course of business is not invalidated merely because there is some confusion regarding the meaning of certainty for the purpose of the Negotiable Instruments Act 1881. 

 

The difference between Bill of Exchange and Promissory Note

Unlike Promissory Note Bill of Exchange has three parties: the ‘drawer’ – the person who is making the bill of exchange; the ‘drawee’ – the person who is instructed to pay the amount; and finally, the ‘payee’ – to whom the amount has to be paid; while in case of the promissory note, the maker of the note is himself liable to pay the amount to the ‘payee’. 

Further, the Bill of Exchange needs to be accepted by the ‘drawee’ otherwise it is just a draft till the acceptance is made. In the case of Promissory Note, since the person paying the amount is also the one making it there is no need for acceptance.

 

Cheque

According to section 6 of the Negotiable Instruments Act 1881, a cheque is basically a bill of exchange that is drawn on a banker. The cheque is not payable unless demanded and according to the Negotiable Instruments Act 1881 includes cheques in electronic form and truncated cheques as well. There are some terms, however, that need to be clarified.

Truncated Cheque: The cheque truncation basically means that the physical form of the cheque is digitised and the original copy of the cheque is destroyed. After this, the whole process between banks is done based on the digital form of the cheque. This process is basically to speed up the transaction and eliminate the processing time.

Clearing Cycle: The clearing cycle is the process where the paper-based instruments such as cheques are processed. In this cycle, the cheques from the drawer’s bank are processed and the amount is transferred to the payee banks.

Clearing House: The clearinghouse is where the exchange of paper-based instruments takes place and the accounts are settled. 

In the next article in this series, the author discusses the consequences of dishonour of cheques.

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Eashaan is a 2^nd year law student at National Law University Delhi. A voracious reader, he loves to travel to new places and experience the culture of different places. His interests include Constitutional Law, Contracts and Law of Crimes.