2-104(1)

Defines merchant as one that deals in the goods having peticularized knowledge

 What happens in the fraudulent selling of O's property from A to P?

UCC 2-403 says that P would obtain a voidable title and the GFP would obtain a title if they fit good faith

What is good faith?

Two part test requiring honest in fact and the observance of reasonable commercial standards

Anything else required to be a good faith purchaser?

Yes, has to be something of value under 1-204 which includes in return for a bind commitment to extend credit, as security, by accepting dlivery or in return for consideration

Could O sue P for conversion if P is a good faith purchaser?

No

Would the result change if the price were 60k? 

1. Value would be there, but whether good faith was met would be trickier

Any difference if P had simply promised to pay?

No, this accounts for value under 1-204

What about if P had taken it as security for a loan

Yes, good faith is accounted for, purchase, and yes this accounts for something of value

What if P had bought the cotton at a sheriff's execution sale on levy?

State law recognizes the validity of sheriff sales, UCC inapplicable

A left O in possession of the cotton, and P had then paid A 100,000 for it?

GFP likely keeps when O gave A "indicia of ownership"

Mowrey v. Walsh facts

Goods purchased by forger who in turn sold them. Original owner demanded them back 

2-403

A person with voidable title has power to transfer a good title to GFP for value

O owned cotton worth 100k. A fraudulently induced ) to sell for 100k in 10 days, falsely representing he was . A sells to P. O sues P for replevin.

Under 2-403(1)a the GFP is protected even if the transferor (O) was deceived about the identity, and when GFP did not suspect fraud. Under UCC P is ok

O owned cotton and A buys with check he had no account. P buys not suspecting fraud

Under UCC A has good title and whether or not it was a cash sale would make no difference

2-403(1)a

Deals with misrepresentation, GFP still protected even if transferor was deceived to the identity of the purchaser

Cundy v. Lindsay

Misrepresented himself as good standing company, since there was no K between the two, no title passed, different result under 2-403(1) of course

Phelps v. McQuade

Gynee falsely represented to Phelps that he was Gwynne a man of financial responsibility and bought jewlery on credit, which was in turn sold to McQuade

What result in Phelps

In Phelps, the court distinguished Cundy because the misrepresentation was face to face

2-403(b) and (c) are intended to 

Stamp out the cash sale exemplified by Young v. Harris

What happened in Young v. Harris

Young sold cotton to McNamee who resold to Harris-Cotner on an insufficient funds check. Young sued Cortner to replevy the cotton

What was the result in Young v. Harris

Interestingly, Young was allowed to get the cotton back. Ucc does away with the old cash sale doctrine exemplified in Young v. Harris

2-403(1)(d) deals with delivery through what

Procured through criminal fraud

What can you do if you are the seller in a criminal fraud situation?

Prosecute B for larceny or theft 

What are the three elements involved in a good faith purchase?

Good faith

purchaser and

value

What is good faith 

Honesty in fact and observance of reasonable commercial standards of fair dealing

How is a merchant defined?

Defined as someone who deals in the good and knows the pecularities of the practice

What section is purchase in?

1-201(29)

How is purchase defined?

Sale lease discount or any voluntary transaction

What section is value defined in?

1-204(4)

What is value

4 part defintion including a commitment, security for preexisting claim, acceptance of delivery of preexisting contract or return for consideration

What is something that may be important to know for the exam?

Difference between old law and UCC

What about sale of a loaned book?

Have to figure whether loaners conduct arises to level of estoppel

What actually is estoppel anyway?

A legal bar preventing someone from alleging or denying a fact

How would estoppel apply to book loaning process?

If the loaner helped to make it look as if the book was the loanee then he is estopped from getting it from GFP

What about leaving a watch with a repair person. Would estoppel have any application there?

Yes, by leaving the watch you have the indicia that B has authority to sell it

What is the applicable section for entrustment cases?

2-403(2)

What does it say?

Any entrusting gives the loanee rights to the good free of any interest

What test is involved?

A two part test: Did A entrust goods to B, a merchant? Is a C a buyer in ordinary course of business.

Where is the second part of the test found in the code?

1-201(9)

What does it involve?

A person who buys goods in good faith, without knowledge that the sale violates the rights of another person in the goods, and in the ordinary course from a person, other than a pawnbroker

Break 1-201(9) down into elements:

Person that buys goods, in good fairth, w/o knowledge, bought in ordinary course of business, consideration

If you answer yes to both questions of 2-403(2) (entrustment) what is the result?

You have statutory estoppel and cannot recover from GFP

Where is entrusting defined?

2-403(3)

What is entrusting anyway?

Entrusting includes any delivery and any acquiescence in retention of possession of any condition expressed between parties to the delivery

Von Maker borrowed painting from Porter to put in his home, pending his decision to buy the painting.  During that time, he sold the painting to Feigen (an art gallery) who sold it to Brenner.  Feigen and Wertz are both defendants and were interested in 2-403 (statutory estoppel).  Court held no statutory or equitable estoppel.  Trial court held statutory estoppel did not bar recovery but that equitable estoppel was a valid defense.  Appellate court held that neither statutory nor equitable estoppel bars recovery by Porter.  

The case focused on whether statutory estoppel.

• Whether Feigen was a "buyer in the ordinary course of business." 
  • No, Wertz was not an art deal
  • Evidence on this issue was not persuasive
• Whether Feigen was acting in good faith
  • Not acting in good faith but did not determine to find out that Wertz was an art dealer
• Two questions of statutory estoppel 2-403(2)
  • There was an entrustment
  • C is likely not a buyer in the ordinary course of business 

1. Did it appear that the entruster full right?

2. Look at it from the eyes of the third party...Does it appear that the owner of the jewelry shop has full rights?

buyer in the "ordinary course of business"

O owned cotton worth 100k. O placed it in storage with A, who both stores the cotton and buys and sells it. A sold the cotton to P, who did not suspect A's wrongdoing, for 100k. O sues P to replevy the cotton.

What result?

issue 1: is a A merchant, goods were placed with A, a merchant that deals in goods of that kind so yes

issue 2; whether p is a buyer in the ordinary course of business: yes.

issue 3: Did P buy from the merchant? Yes

O owned cotton worth 100k. O placed it in storage with A, who both stores the cotton and buys and sells it. A sold the cotton to P, who did not suspect A's wrongdoing, for 100k. O sues P to replevy the cotton.

Does it make a difference whether O knows that A buys and sells and cotton?

O owned cotton worth 100k. O placed it in storage with A, who both stores the cotton and buys and sells it. A sold the cotton to P, who did not suspect A's wrongdoing, for 100k. O sues P to replevy the cotton.

What result if P had promised to pay 100k but has not yet paid it when O claims the cotton?

A, who is in the cotton business, sold cotton to O, who paid A $60,000 and promised to pay the balance of $40,000 when O took delivery of the cotton in two weeks.  The bill of sale recited: “A hereby sells and conveys to O all right and title to cotton [giving description] and agrees to take good care and custody of said cotton until final delivery.”  A week later, A sold the same cotton to P, who took delivery without knowing of the sale to O and promised to pay A $90,000 in 30 days.  O sues P to replevy the cotton.

Suppose that P also left A in possession of the cotton and O got wind of the sale and took delivery. P sues O to replevy the cotton.  What result?  

                                                               i.      When focusing on entrustment—always focus on the “buyer in the ordinary course” NOT on the good faith purchaser under 2-403(2).  O wants to come in as the buyer in the ordinary course.  O would attempt to establish himself as a buyer in the ordinary course, but O has to show that O acted in good faith and that a prior party had not acted on the cotton.  If O did not have notice, he would be a buyer in the ordinary course.  O can’t take possession because he has notice of the sale to P.  There is nothing O can do because title has already been passed to P.  O will not satisfy the good faith element because he has notice.  If O had no knowledge then O could keep the cotton.  Moreover, if the good faith element was satisfied, value would be satisfied by O because he is getting the cotton under a pre-existing K of sale.  Does P run any risk if he leaves A in possession of the cotton? Well, he’s entrusting A with the cotton because he’s acquiescing in retention so I guess he runs the same risk as did O. 

Notice or Knowledge:  “a person has “notice” of a fact if the person: (1) has actual knowledge of it; (2) has received a notice or notification of it; or, (3) from all the facts and circumstances known to the person at the time in question, has reason to know that it exists.

: A, who is in the cotton business, sold cotton to O, who paid A $60,000 and promised to pay the balance of $40,000 when O took delivery of the cotton in two weeks.  The bill of sale recited: “A hereby sells and conveys to O all right and title to cotton [giving description] and agrees to take good care and custody of said cotton until final delivery.”  A week later, A sold the same cotton to P, who took delivery without knowing of the sale to O and promised to pay A $90,000 in 30 days.  O sues P to replevy the cotton.

What result?

                                                               i.      P wins.  There was an entrustment of the goods to A because O acquiesced in retention of the cotton.  P keeps the cotton because he was a buyer in the ordinary course in that he bought on unsecured credit, in good faith, without knowledge that the sale violated the rights of another party, and for consideration.  If P has not yet paid A the $90,00, what would you advise O to do? If P had not yet paid A, O could sue A to attach the money owed to A by P.  A converted the goods by delivering them to P and O should be able to recover damages. When talking about buying in the ordinary course, the type of consideration is described in (9), ignore the other definition of value.  A promise to pay, unsecured credit (don’t look at 1-204 at all) makes P a purchaser for value in the ordinary course.  Know difference between a buyer in the ordinary course and a good faith purchaser for value—and what qualifies as value or consideration!! 

A promissory note is a promise to pay.  It contrasts with a check—a check reflects an order to the bank to pay an identified sum. Drafts are orders to pay sums of money—and checks are a special class of drafts.  

“drawer” aka the “maker” of the note.

Bank who is ordered to pay: 

Person who receives the money: 

“check” means (i) a draft, other than a documentary draft, payable on demand and drawn on a bank or (ii) a cashier’s check or teller’s check.  An instrument may be a check even though it is described on its face by another term, such as “money order.” 

3-104(h) states 

Money. UCC 1-201(24) defines “money” as a medium of exchange currently authorized or adopted by a domestic or foreign government.  If a coin or currency was from a regime no longer in existence, then it wouldn’t be money. 

Does art 2 or 3 of the code apply? Bills are money. Article 2 focuss on goods, but the definition of goods tells us that money does not count.  Definition of goods does not include money.

So what do we do? Look to the common law: MIller v. Race money can't be replevied.

Byzantine mosaic was stolen in the late 1970’s.  Art dealer, Goldberg, purchased the mosaic at the Geneva Airport and made a cursory inquiry to determine whether the mosaics had been stolen.  Church sues Goldberg for recovery.  “Discovery rule”—SOL does not run until the Church, using due diligence, knew or was on reasonable notice of the identity of the possessor of the mosaics.  2 key holdings pertaining to SOL and nemo dat doctrine.  Substantive law to be applied was of Indiana which had a six year SOL.  The suit was filed ten years after the theft.  Goldberg bought the paintings in 1988.  The SOL is irrelevant b/c thieves never acquire title to stolen goods in Indiana—nemo dat rule.  “A thief obtains no title to or right to possession of stolen items and can pass no title or right to possession to a subsequent purchaser.” Goldberg never had legitimate title.  Goldberg was not a GFP—found that the mosaic was valued at 3-6 million and was only paying 1 million.  Goldberg acted in bad-faith taking into consideration all of the circumstances.  She did not investigate the title that the sellers had to the painting.  Would it have made a difference if Goldberg had acted in good faith? No, not under the nemo dat rule b/c she acquired title from a thief who did not have good title to transfer.

• “Discovery rule:”  a cause of action accrues when the real owner first knew, or reasonably should have known through the exercise of due diligence, of the cause of action.”  (New Jersey uses the discovery rule)
• UCC 2-403 is the closest statement to the nemo dat principle found in the UCC.  Though, the UCC provision does not use or incorporate the word “thief.”  It would be better to title this “title acquired by thieves.’
• SOL tests: discovery rule, demand and refusal rule (protects real owner), time of theft, and from the time the GFP has possession.  Demand and refusal rule is the rule that most benefits the real owner of the items.       

The Guggenheim Foundation is seeking to recover a Chagall gouache worth an estimated $200,000.  The Guggenheim believes it was stolen from its premises in the late 1960s.  Rachel Lubell and her husband bought the painting for $17,000 from a well-known Madison Ave. gallery in 1967 and have had it for more than 20 years.  Mrs. Lubell had no reason to believe the painting was stolen. 

• Defenses:  SOL, good faith purchaser for value, laches, adverse possession, and culpable conduct.  Essence of SOL defense:  one should not unreasonably delay filing a lawsuit. GFP for value: not protected if property is stolen.  Laches (if you wait so long you unduly prejudice innocent parties).  This case reaffirms the nemo dat rule which protects real owners, even from good faith purchasers. 

•  
  1. Trial court holding: Mrs. Lubell argued three year SOL barred claim.  Ct. acknowledged that typically a cause of action in replevin accrues when demand is made upon the possessor and the possessor refuses to return the chattel; however, here, the court reasoned that in order to avoid prejudice to a GFP, demand cannot be unreasonably delayed and the property owner has an obligation to use reasonable efforts to locate its missing property to ensure that demand is not delayed.  For thieves, SOL began to run at the time of theft.  For good faith purchasers, SOL began to run once demand was made.  Didn’t like the law—wanted to recognize a due diligence obligation on the owner. 
  2. Appellate Divison: dismissed SOL defense and denied SJ in favor of Lubell (there were questions of fact—whether museum’s response to the theft was reasonable, etc.).
  3. Court of Appeals:  Demand and Refusal rule applies.  The burden of investigating the credibility of a work of art rests with the potential purchaser.  The burden of proving the painting was not stolen properly rests with Mrs. Lubell.      

§  New York law holds that a cause of action  for replevin against a GFP of a stolen chattel accrues when the true owner makes demand for return of the chattel and the person in possession of the chattel refuses to return it.  Although it doesn’t make sense, a different rule applies when the stolen object is in the possession of a thief.  In that situation, the SOL runs from the time of theft for 3 years—even if the property owner is unaware of the theft at the time it occurred.  Demand and Refusal rule was the rule in New York in 1991. 

§  New York rejected the adoption of the discovery rule.  The statute vetoed would have provided a 3 yr SOL would run from the time these institutions gave notice that they were in possession of a particular object.  The Governor expressed concern that such a rule would not provide reasonable opportunity for individuals of foreign gov’ts to receive notice of a museum’s acquisition and take action to recover it before their rights are extinguished.”

“A purchaser of goods acquires all title that the purchaser’s transferor had or had power to transfer except that a purchaser of a limited interest  acquires rights only to the extent of the interest purchased.  A person with voidable title has power to transfer a good title to a good-faith purchaser for value.  If goods have been delivered under a transaction of purchase, the purchaser has such power even if:

(a)     the transferor was deceived as to the identity of the purchaser;

(b)     the delivery was in exchange for a check that is later dishonored;

(c)     it was agreed that the transaction was to be a “cash sale”; or

(d)     the delivery was procured through criminal fraud.

Official Comment:

1.        The provisions of this section are applicable to a person taking by any form of “purchase” under 1-201(29).  “Purchase” means taking by sale, lease, discount, negotiation, mortgage, pledge, lien, security interest, issue or reissue, gift, or any other voluntary transaction creating an interest in property.”

(a)     No, under UCC P is out of luck, but civil law jrd may be different (not in US). But P can go after A for breach of transferability warranty UCC 2-312. Breach of warranty of title so anytime sale, seller contracts to make good title to P can recover from B (if can find B).

(a)     No, because O did not “entrust” his cotton to A, but A stole it. A is still a thief.  Doesn’t matter if GFP; if in the business held to a higher standard. Someone in the cotton business would be a merchant. For purposes of this question it would not make a difference. Will still not allow you to retain possession of the goods. Proper owner can still recover the goods. Makes it easier to justify your reliance, but that will not help you b/c issues of good faith are irrelevant in cases of stolen property.

(a)     ?  No difference b/c no one other than O has rightful title.  According to UCC 2-312, P could sue B for not giving him good, clean title transferred in a rightful manner and b/c now P will be exposed to a lawsuit to protect the title.  The seller has a duty in the contract for sale to ensure that the title conveyed is good and its transfer rightful and shall not unreasonably expose the buyer to litigation b/c of any colorable claim to or interest in the goods.  The result would be different if O himself stole the cotton and has no rightful title to the cotton either, then O can’t sue and win.  Under UCC 2-403 can only pass interest the transferor had and here each transaction only passes void title. P’s recourse against B is UCC 2-312 for breach of warranty of title; seller makes warranty that he has good title – buyer has recourse against seller. If no warranty then P would be out of luck.

The common law begins with the principle that a buyer acquires no better title to goods than the seller had, a principle embodied in the maxim nemo dat quod non habet (one cannot give what one does not have).  To this principle the common law admits a number of exceptions, the most significant has been the doctrine of voidable title for cases of fraud.  Under common law, once you steal you never acquire title to property. 

1.  
   • In Birmingham, nemo dat applies. 
   • A (title is good)→B (stolen and title is void)→C (title is void)

), however, begins with a very different principle in which the good faith purchaser of goods is generally protected against the original owner, a principle expressed in the phrase possession vaut titre (possession is equivalent to title).  Person has to act in good faith.  No protection for bad faith.  This is not an absolute protection, but is subject to a time limit.  But most civil systems make an exception for cases of theft, allowing the original owner of stolen goods to reclaim them from a good faith purchaser within a statutory period of, in French law, three years.  Some of these systems protect the good faith purchaser who has acquired stolen goods at a fair or market or from a merchant who deals in similar goods by requiring the purchaser to return the goods to the original owner only on reimbursement of the purchase price. 

• If you act in bad faith, you will not be protected by the civil law. 

:” English law makes an exception to the principle of nemo dat by protecting the good faith purchaser of stolen goods where the goods “are sold in market overt according to the usage of the market.”  A market overt is an open and public market. 

Statute of Limitations:  Because UCC 2-403(1) follows the maxim nemo dat, a good faith purchaser is usually remitted to the argument that the statute of limitations bars the original owner from reclaiming the goods.  

Problem 9: O was the owner of a negotiable promissory note, made by M, who promised “to pay on demand to bearer $100k.” A stole it from O and gave it to P, who did not suspect the theft, in return for $100k. O sues P to replevy the note.

(a)     What result? 3-102 says that Article 3 applies to negotiable instruments.  We have here a negotiable promissory note.  A note is a negotiable instrument so Art. 3 governs. Once determine if a holder in due course, then can take free of any claims (see 3-306).  3-306 states, “a person taking an instrument, other than a person having rights of a holder in due course, is subject to a claim of a property or possessory right in the instrument or its proceeds, including a claim to rescind a negotiation and to recover the instrument or its proceeds.  A person having rights of a holder in due course takes free of the claim to the instrument.”  Does P satisfy all the elements of a holder in due course?  O could still recover if P is not a holder in due course (3-302). Two types of neg. instruments: (1) bearer (not specified) and order instrument (specified holder). Important to determine which one before answering problem.  This is a bearer instrument b/c it says pay to bearer (3-109).  3-109 states that “a promise or order is payable to bearer if it (1) states that it is payable to bearer, (2) does not state a payee, or (3) states that it is payable to cash.”  So then examine number of elements to determine if comes in as holder in due course (3-302), b/c holder in due course has rights and can cut off owner’s rights (3-306).  3-302: Holder in Due course: “the holder of an instrument if: (1) the instrument when issued or negotiated to the holder does not bear apparent evidence of forgery or alteration or is not otherwise so irregular or incomplete as to call into question its authenticity; and (2) the holder took the instrument (i) for value, (ii) in good faith, (iii) without notice that the instrument is overdue or has been dishonored or that there is an uncured default with respect to payment of another instrument issued as part of the same series, (iv) without notice that the instrument contains an unauthorized signature of has been altered, (v) without notice of any claim to the instrument described in 3-306, and (vi) without notice that any party has a defense or claim in recoupment described in 3-305(a).  P is a holder in due course b/c he meets all the elements below:   

1.       Instrument: governed by Article 3, a negotiable instrument.

2.       Value: 3-303(a)(1): the instrument is issued or transferred for a promise of performance. Promise was to pay $100k.  3-303(a)(1) states that “an instrument is issued or transferred for value if (1) the instrument is issued or transferred for a promise of performance, to the extent the promise has been performed.” 

3.       Notice: w/o notice of the theft.

4.       Good faith: honesty in fact and the observance of reasonable commercial standards of fair dealing. (3-103(6)) P did not suspect anything.

5.       Holder: 1-201(21): “the person in possession of a negotiable instrument that is payable either to bearer or to an identified person that is the person in possession.” This is a bearer instrument and P is in possession, so P is a holder.

3-201(a) states that negotiation “means a transfer of possession, whether voluntary or involuntary, of an instrument by a person other than the issuer to a person who thereby becomes its holder. (b) If an instrument is payable to bearer, it may be negotiated by transfer of possession alone.”  Even though A is a thief and stole the promissory note, involuntary negotiation occurred.

Problem 9: O was the owner of a negotiable promissory note, made by M, who promised “to pay on demand to bearer $100k.” A stole it from O and gave it to P, who did not suspect the theft, in return for $100k. O sues P to replevy the note. (a)    

What if P only paid $60K? 

(a)     2 issues:

1.        Did P pay value? 3-303(a)(1); he did give value according to the UCC. All that is required is that you make a promise and then you make good on the promise.  3-303(a)(1) states that “an instrument is issued or transferred for value if it is issued or transferred for a promise of performance, to the extent the promise has been performed.”

2.        Paying less for the note is normal.  Many times you discount a note b/c the holder has to wait for a long time to cash it in and cannot cash it immediately—to compensate for the delay you might discount the note—but look at margin of discount—shouldn’t be too great.  The issue comes up when the purchase price is ridiculously low, then might have a good faith issue, which would be a jury question.  Usually when you pay less than what the item is worth it raises some issues re: good faith b/c one of the tests of good faith is honesty and these circumstances are suspicious.  If he acted in bad faith, he is not a holder in due course and O would be able to get it back. 

(a)     No value.  Made the promise to pay but has not yet paid.  3-303(a)(1): Can make a promise to pay, but must pay.  P would not be a holder in due course.    

(a)     Meets the value requirement 3-303(a). Transfer.

(a)     P has paid $80k then entitled to 80k/90k.  P can keep 80k/90k*100k of the $90k note.  3-302(d) states “if, under section 3-303(a)(1), the promise for performance that is the consideration for an instrument has been partially performed, the holder may assert rights as a holder in due course of the instrument only to the fraction of the amount payable under the instrument equal to the value of the partial performance divided by the value of the promised performance.”  P has performed, but not fully so will only be in relation to what has performed.  Partial performance/promised performance multiplied by the Value.

Problem 10: O was the owner of a neg. promissory note, made by M, who promised “to pay on demand to the order of O $100k.” A stole it from O, forged O’s indorsement, and sold it to P, who did not suspect the theft, for $100k. O sues P to replevy the note. What result?

1.        Order note b/c ordered to O.  3-109(b) states “a promise or order that is not payable to bearer is payable to order if it is payable to the order of an identified person.” 3-306: holder in due course: in order for P to have rights he must come in as a holder in due course. So is P a holder in due course? We have an instrument:  this is an order instrument, not a bearer instrument; we have value; good faith is satisfied; P does not come in as a holder in due course b/c (1-201(21)) O is not a “holder” b/c although he is in possession, he is not the person identified.  Could argue that the instrument was transferred legally from O to P. Negotiate the instrument from O to P. Would require an indorsement and a delivery of the instrument (3-201). P would have to show proof that there was indorsement and a delivery. O needed to have indorsed the note over to A in order for it to be valid.  Endorsement is required by 3-201(b):  “if an instrument is payable to an identified person, negotiation requires transfer of possession of the instrument and its indorsement by the holder.”  When you have an indorsement and there is a forged instrument, it appears that O signed it though, so from P’s perspective w/o knowledge of the forgery, he believes this is a bearer instrument. (3-205(b) states that “if an indorsement is made by the holder of an instrument and it is not a special endorsement (signed over to another person), it is a “blank indorsement.”  When indorsed in blank, an instrument becomes payable to bearer and may be negotiated by transfer of possession alone until specially indorsed.”  W/o knowledge of forgery, it is likely that P comes in as holder.  There was an indorsement but it was by the wrong person—it was not O who endorsed it. It was forged.  Forged endorsements are not given effect.  3-403 governs forgeries: “an unauthorized signature is ineffective except as the signature of the unauthorized signer in favor of a person who in good faith pays the instrument or takes it for value.”  When P buys it, he believes it is a bearer instrument.  It could not be an order instrument b/c there was no legitimate indorsement even though there was delivery.  Bottom line: this instrument was NEVER indorsed.  Under 3-403 is there any time you can give effect to that unauthorized signature? Yes, for an innocent purchaser who buys for value.  P does not come in as a holder of due course, but P paid A.  Court can look at the forged signature and treat it as A’s signature (the unauthorized signer) and not O’s signature.  The Court would look at that signature as A purporting to sell that value to P and will allow P to recover that amount from A.  All of this under 3-403.  There are two issues here: note the effect that the forgery has, but then note that the court looks at O’s forged signature as A’s signature and bases liability upon A.  What happens to P’s rights if doesn’t come in as holder? It disappears. P fails to extinguish O’s rights.

1.        When O endorsed it became a bearer instrument (3-205(b) states that “if an indorsement is made by the holder of an instrument and it is not a special endorsement (signed over to another person), it is a “blank indorsement.”  When indorsed in blank, an instrument becomes payable to bearer and may be negotiated by transfer of possession alone until specially indorsed.”  Should it matter that A acquired the instrument through theft for purposes of negotiating the instrument?  3-201 says that “negotiation” means a transfer of possession, whether voluntary or involuntary—and the other two elements, “transfer of possession” and “indorsement” are satisfied.  So the instrument was properly negotiated. 3-205: The indorsement by O without noting a third person on the instrument makes it a bearer instrument, and is a blank indorsement.  

1.        Under UCC 3-205(a) “if an indorsement is made by the holder of an instrument, whether payable to an identified person or payable to bearer, and the indorsement identifies a person to whom it makes the instrument payable, it is a “special indorsement.”  It would be an order instrument b/c made to specific person.  This is a special indorsement b/c it was indorsed only to B—O identified another person.  P would not come in as a holder in due course. P was never even a holder: he was not identified on the instrument (1-201(21)). 

Problem 11: O was the owner of a promissory note made by M, who promised to “pay to the order of O $100k.” A fraudulently obtained it from O, who did not endorse the note. A gave it to P who did not suspect the fraud, in payment for cotton delivered by P to A. O sues P to replevy the note. What result?

                                                               i.      Main rule: holder in due course is able to get instrument free of any claims.  UCC 3-306 states “A person taking an instrument, other than a person having rights of a holder in due course, is subject to a claim of a property or possessory right in the instrument or its proceeds, including a claim to rescind a negotiation and to recover the instrument or its proceeds.”  Would P come in as such a holder in due course under 3-302? No, b/c P is not even a holder under 1-201(21) because a holder is “a person in possession of a negotiable instrument that is payable either to bearer or to an identified person that is the person in possession.” Under 3-201, “if an instrument is payable to an identified person, negotiation requires transfer of possession of the instrument and its indorsement by the holder.  If an instrument is payable to bearer, it may be negotiated by transfer of possession alone.” O has to endorse it and deliver. Look to whether instrument is a bearer or order instrument. Here it is an order instrument so in order for P to acquire rights, O would have to endorse the note. P does not meet the classification of a holder.  1-201(21) P is not a holder b/c he is not an identified person on the note, the note identifies O, not P.  So, P is in possession of the note but is NOT the identified person in possession. 

                                                             ii.      Would the result be different if P had promised to deliver cotton to A but has not yet done so?  Significance: promise must be performed, but this would not change the result b/c still not a holder.  Issue of value under 3-303: “an instrument is issued or transferred for value if the instrument is transferred for a promise of performance, to the extent the promise has been performed.” If none of the promise has been performed, then no value has been given.   

Terms of note said “William Finney or Bearer.” Finney sent it in the mail, robber stole it, and it came into possession of the plaintiff for full and valuable consideration without notice of the theft.  Bearer instrument and is treated as cash.  The reason you can’t recover money is b/c it has no earmarks.  It cannot be recovered after it has passed in currency.  So, in the case of money stolen, the true owner cannot recover it, after it has been paid away fairly and honestly upon valuable consideration.  Bank-notes are likened to money.  The plaintiff innkeeper took the banknote for full and valuable consideration—it was just as if he had been paid in cash.  “An action may lie against the finder, but not after it has been paid away in currency.”  Holding: if money that is stolen and passed to a GFP for value, you cannot recover it.

In this case the court found that the GFP should be protected. 

Holder in Due Course (3-302):

1.  
   1. must be the holder: 1-201(21): the person in possession of a negotiable instrument that is payable either to bearer or to an identified person that is the person in possession.
   2. of an instrument
   3. who took it for value: In order to show that a person is a GFP and not merely a donee, the person in possession must show that he gave value.  One gives “value” if one gives “any consideration sufficient to support a simple contract” under 3-303.  Value is a broader concept than consideration, for one can give value by giving something that would not, because of the pre-existing duty rule, be consideration. 
   4. in good faith: (3-103(a)(6) definition of good faith in Article 3.)
   5. and without notice: (3-304 overdue) (1-202): “A person has notice of a fact if the person (1) has actual knowledge of it, (2) has received a notice or notification of it, or (3) from all the facts and circumstances known to the person at the time in question, has reason to know that it exists.”

*The instrument when negotiated to the holder cannot bear any appearance of forgery or alteration or otherwise look irregular or incomplete as to call into question its authenticity.

Yes.  O is the holder of the negotiable instrument made payable to bearer.  Would A, as a thief, be considered a holder of that instrument?  Yes—A would come in as a holder.  Whether the transfer is voluntary or involuntary doesn’t make a difference—it is going to be involuntary as far as the thief is concerned, but it doesn’t matter. Still a holder.  The thief is a “holder” but not a “holder in due course.”

No, b/c of 1-201(21) Holder means “the person in possession of a negotiable instrument that is payable either to bearer or to an identified person that is the person in possession.”  The identified person must have possession.  If A has possession, he does NOT meet the standard. 

• Rule is this: if its a bearer instrument, anyone who has possession has rights.  If it is an ordered instrument to a specific person, only that person has rights and can be a “holder.” 

When the instrument is negotiated to you (3-201).  By negotiated, we mean transferred.  If it’s a bearer instrument, you transfer rights by transferring possession.  Just delivering that instrument to another person. (This is how a thief can become a holder—does not matter whether delivery is voluntary.)  If it is an order instrument, it must be indorsed and delivered (3-201).

• special or blank (3-205).  Blank—check made payable to O and signs his name.  Special endorsement—O wants to assign his rights to B, where you endorse and assign your rights to another person—if you identify another person, it is a special indorsement.   Signing in blank is just signing your name. It automatically transfers rights upon delivery (3-201) and the instrument is treated just like a bearer instrument. When you endorse it specially you sign your name and identify another person who is to receive the funds. Then you must deliver to the special person identified.  

• UCC 3-204:  “indorsement” means a signature, other than that of a signer as maker, drawer, or acceptor, that alone or accompanied by other words is made on an instrument for the purpose of negotiating the instrument.

• a) “if an indorsement is made by the holder of an instrument, whether payable to an identified person or payable to bearer, and the indorsement identifies a person to whom it makes the instrument payable, it is a “special indorsement.” (b) “if an indorsement is made by the holder of an instrument and it is not a special endorsement (signed over to another person), it is a “blank indorsement.”  When indorsed in blank, an instrument becomes payable to bearer and may be negotiated by transfer of possession alone until specially indorsed.”    

). Haddock issued a check written on a cow.  He had issued an order.  The instrument that Haddock submitted was a cow.  When it comes to negotiable instruments, so long as you are ordering someone to pay, it does not matter the instrument you use.  The only place left for indorsement was on the belly of the cow.  The Commissioner did not indorse the cow—but he paid, and the suit was dismissed.  The rule is that a check must be indorsed to an identified party in order for the subsequent party to have rights. 

VALUE

UCC 3-303 Definitions of Value

(1)     a credit transaction will not suffice—will not be considered to have paid for value. 3-303(a) says that a promise for performance (which is essentially what credit is) is only value to the extent performed; therefore, if a purely credit transaction—no value has been paid. 

(2)     Security interest is viewed as value. Though, if you file a lawsuit for a lien and you are awarded a lien on an asset, it does not satisfy as “value.”

(3)     Instrument can be issued or transferred as payment of, or as security for, an antecedent claim.  If there was already a debt that was owed and if you transfer the instrument as payment or security, this is “value.”

(4)     In exchange for a check, its value.

(5)     In exchange for a letter of credit.  A promise by a bank to pay an individual a sum.  If a buyer approaches his bank to ask it to pay the seller, that would amount to “value.” 

WITHOUT NOTICE:  3-304.  3-302: If you have information that a check was forged you cannot be a holder in due course.  Also, alterations—if the check has been altered, you can’t have notice and be a holder in due course.  If you know there is a claim to the check, this would be deemed to have notice and would not be a holder in due course.  There are defenses: if a person holds a gun to your head for you to write a check, if the holder has notice that it is procured through that type of fraud—not holder in due course.

Note on notice:  if you do not have actual knowledge but notice was sent to you, you are deemed to have notice of that fact.  The circumstances surrounding it can be used to infer that one should have notice. 1-202. 

UCC 1-201(16) “Document of Title” means a record (i) that in the regular course of business or financing is treated as adequately evidencing that the person in possession or control of the record is entitled to receive, control, hold, and dispose of the record and the goods the record covers and (ii) that purports to be issued by or addressed to a bailee and to cover goods in the bailee’s possession which are either identified or are fundible portions of an identified mass.  The term includes a bill of lading, transport document, dock warrant, dock receipt, warehouse receipt and order for the delivery of goods.” It describes rights to goods.  

UCC 1-201(45) “Warehouse receipt” means a receipt issued by a person engaged in the business of storing goods for hire.”  At times, commodities of enormous value must be kept in storage pending processing, distribution and use.  Other commodities—like fuel oil—are stored in large quantities because their use is seasonal.  Warehouse receipts may be employed as a means for traders to deal in these goods without the inconvenience of physical delivery.  A slightly different use arises when a concern, such as a brewer or mill, needs to hold commodities which tie up more capital than it can spare.  Using warehouse receipts as collateral may facilitate a low-interest loan that otherwise would not be available.  The rights of the transferee (the recipient) of the warehouse receipt are an important factor to these transactions.  A transferee wants to be sure they are taking both the document and the goods free from claims of third parties.  

NON-NEGOTIABLE WAREHOUSE RECEIPT

7-501 states that the following rules apply to a negotiable tangible document of title: 

1.       If the document’s original terms run to the order of a named person, the document is negotiated by the named person’s indorsement and delivery.  After the anmed person’s indorsement in blank or to bearer, any person may negotiate the document by delivery alone.

2.       If the document’s original terms run to bearer, it is negotiated by delivery alone.

3.       If the document’s original terms run to the order of a named person and it is delivered to the named person, the effect is the same as if the document had been negotiated.

4.       Negotiation of a document after it has been indorsed to a named person requires indorsement by the named person and delivery.

5.       A document is duly negotiated if it is negotiated in the manner stated in this subsection to a holder that purchases in good faith, without notice of any defense against or claim to it on the part of any person, and for value, unless it is established that the negotiation is not in the regular course of business or financing or involves receiving the document in settlement or payment of a monetary obligation.

states that “a holder to which a negotiable document of title has been duly negotiated acquires title to the document, and title to the goods.

7- 503 states that “a document of title confers no right in goods against a person that before issuance of the document had a legal interest or a perfected security interest in the goods and that did not: (1) deliver or entrust the goods or any document of title covering the goods to the bailor or the bailor’s nominee with actual or apparent authority to ship, store, or sell, power to obtain delivery, or power of disposition; (2) acquiesce in the procurement by the bailor or its nominee of any document.”  A thief of goods cannot indeed by shipping or storing them to the thief’s own order acquire power to transfer them to a GFP.  

states that “(a) a transferee of a document of title, whether negotiable or nonnegotiable, to which the document has been delivered but not duly negotiated, acquires the title and rights that its transferor had or had actual authority to convey. (b) In the case of a transfer of a nonnegotiable document of title, until but not after the bailee receives notice of the transfer, the rights of the transferee may be defeated: (4) as against the bailee, by good-faith dealings of the bailee with the transferor.”

O gets the cotton.  P meets both the elements of being a holder and due negotiation because he purchased the goods in good faith for value w/o notice and the purchase was in the regular course of A’s business, thereby satisfying 7-501(d).  Although 7-502 is satisfied, because P is a holder who would acquire title to the document and the goods, except for the fact that O qualifies as an innocent owner under 7-503.  Under 7-503, O did not deliver or entrust the goods or any document of title to A, nor did he acquiesce in the procurement by A of the goods.  Thus, O wins because there was not entrustment to A.  What is A’s liability to P?  A is liable to P under 7-507 for breach of warranty.  7-505 states, “if a person negotiates or delivers an instrument of title for value, in addition to any warranty made in selling or leasing the goods, warrants to its immediate purchaser only that: (1) the document is genuine, (2) the transferor does not have knowledge of any fact that would impair the document’s validity or worth; and (3) the negotiation or delivery is rightful and fully effective with respect to the title to the document and the goods it represents.

·         Was the document duly negotiated?  Yes, he satisfies all 7 elements of due negotiation:  he is the (1) holder, (2) he purchased the instrument, (3) in good faith, (4) without notice, (5) in the regular course of A’s business, (6) negotiation in due course, and (7) for value.  P is a holder to which the document has been duly negotiated.  However, since O is not at fault under 7-503, he may recover. 

O wins because O did not indorse the document.  Basic issue is lack of sufficient endorsement.  Under 3-403, “an unauthorized signature is ineffective except as the signature of the unauthorized signer in favor of a person who in good faith pays the instrument or takes it for value.”  An unauthorized signature/forgery can’t create a negotiation.  Thus, because the indorsement is ineffective, P is not a holder.  An argument can also be made that A did not negotiate the document in the regular course of A’s business.  7-501 requires indorsement by the named person.  Here, there was not negotiation b/c of the fraudulent indorsement. Was the document duly negotiated?  Go through 7 elements: delivered, purchased in good faith, without notice, for value BUT not in the regular course of business and NOT properly indorsed by named person; therefore, he was not a holder (b/c not indorsed by O).  Therefore, document was not duly negotiated. P will be able to recover against A, the unauthorized signer, and O will get his cotton.

Problem 14: O owned cotton worth $100,000.  O stored the cotton in the W warehouse which issued a negotiable warehouse receipt to O’s order.  O in preparation for a proposed sale, indorsed the receipt by signing “O” and placed it in a safe.  A, O’s bookkeeper, stole the receipt and sold it to P for $100,000. 

                                                               i.      O wins.  P became a holder because the document was a bearer document that P had possession of paid value, and it was nearly duly negotiated because P purchased it in good faith, without notice, and for value.  7-501(a)(1) states that after the named person’s indorsement in blank or to bearer, any person may negotiate the document by delivery alone.  7-501(a)(5) further states that “a document is duly negotiated if it is negotiated in the manner stated in this subsection to a holder that purchases it in good faith, without notice of any defense against or claim to it on the part of any person, for value, unless it is established that the negotiation is not in the regular course of business.  But, to be “duly negotiated” the negotiation must occur in the regular course of A’s business.  A was not acting in the regular course of her business, thus, O wins.

                                                               i.      With regard to P, P comes in as a holder (because it’s a bearer instrument and he has possession 7-501(a)(2)).  Further, B duly negotiated the instrument because it was given to a holder, that purchased it in good faith, for value and without notice—and, the negotiation was in the regular course of business, B’s business.  Under 7-502, “a holder to which a negotiable document of title has been duly negotiated acquires thereby: title to the document, and title to the goods.  Now, it becomes necessary to look at the owners conduct under 7-503.  7-503 states that “a document of title confers no right in goods against a person that before issuance of the document had a legal interest or a perfected security interest in the goods (original owner) and that did not: (1) deliver or entrust the goods or any document of title covering the goods to the bailor, or (2) acquiesce in the procurement by the bailor or its nominee of any document.  When looking at 7-503, O is not blameworthy because he did not entrust A with the document.  Unless O gave A the combination to the safe, there was no entrustment.  Under 7-503(1)(b), however, O did acquiesce in the procurement of the goods by storing the goods in the warehouse and obtaining a receipt.  O placed the goods in the stream of commerce.  P wins. 7-503 (a)(2) states “acquiescence in the procurement by the bailor or its nominee of any document” not goods. Stream of commerce---aytime you get issued a docuent of title you have introduced into stream of commerce. 

                                                               i.      This question focuses on the value requirement, and P wins because mere promise to pay is sufficient consideration to transfer document of title under 1-204: “a person gives value…in return for any consideration sufficient to support a simple contract. (b/c article 7 does not give definition of value look back to the general definitions.) 

O owned cotton worth $100,000.  O stored the cotton in the W warehouse, which issued a negotiable warehouse receipt to O’s order.  A fraudulently obtained it from O, who indorsed it signing “O”.  A, who is in the cotton business, negotiated it to P, who did not suspect the fraud, for $100,000.

who gets the cotton?

(a)     ?  P wins.  P wins because he met all of the elements of being a holder and due negotiation.  He is a holder (this is a bearer instrument b/c O indorsed it and he is in possession), negotiation in due course, purchaser, good faith, for value, without notice, and done in the regular course of business.  Under 7-503, we look at the conduct of O and find that O is blameworthy because he acquiesced in the procurement of the goods by entrusting them to the warehouse.  In Comment 1 to 7-503, it states “in general it may be said that the title of a purchaser by due negotiation prevails over almost any interest in the goods which existed prior to the procurement of the document of title if the possession of the goods by the person obtaining the document derived from any action by the prior claimant which introduced the goods into the stream of commerce.”  Here, the owner put the cotton in the stream of commerce by placing it in the warehouse, so owner will not be protected. P wins. 

(a)     If the document is not indorsed, then the document is not duly negotiated because P does not qualify as a holder b/c he is not identified on the document and the document is not a bearer instrument.  Then it would still be an order instrument made out to O.  When a document is not duly negotiated we look to 7-504 which says that “ a transferee of a document of title…to which the document has been delivered but not duly negotiated, acquires the title and rights that its transferor had or had actual authority to convey.”  If we were dealing purely with goods, A would have voidable title which would have been transferred to good title upon the transfer to P.  However, the rule for documents of title is different then goods, and it states that A had no rights that could be changed into good title.  Thus, O wins.

(a)     Look to 7-504: if non-negotiable doc. transferred to P then would only get the same rights as A.  Non-negotiable under 7-504(a), transferor/A transfers to transferee/P and transferee/P acquires only such rights as transferor has.  A did not have good title to the document.  If we were dealing with goods A would have had voidable title, and if A transferred to P goods before O intervened then P would have good title.  But rule is very different for document of title, no similar rule as 2-403 thus when non-negotiable document of title is fraudulently taken and transferred, it’s void title b/c when A transfers to P, P only acquires such rights as A has.  Would P’s position be improved if P had notified W of the transfer before O claimed the cotton?  Under 7-504(b)(1), “in the case of a transfer of a non-negotiable document of title, until but not after the bailee (warehouse) receives notification of the transfer, the rights of the transferee may be defeated (a) by those creditors of the transferor who could treat the sale as void.” O is creditor.  7-504(2) makes it clear that the transferee (P) of a non-negotiable document may acquire rights greater in some respects than those of his transferor (A) by giving notice of the transfer to the bailee.  By notifying W (warehouse—the bailee) of his having possession of the document of title, it makes it impossible for O (A’s creditor) to come and get the goods.  Thus, by P acting in a timely manner before O claimed the goods, P wins, and O’s claim would be cut off.  Once Warehouse/bailee is notified of the transfer of title, P’s position is improved in relation to problem B above and P wins.  Note, because of A’s fraud, O can rescind the sale up until the time that P notifies W of transfer.  P has a stronger claim upon notification.  7-504(b)(1) limited only to non-negotiable documents. Can defeat by notifying the bailee of the transfer of the document. This cuts off rights of the owner to reclaim possession of the document.

Comments to 7-504:  In contrast to situations involving the goods themselves the operation of estoppel or agency principles is not here recognized to enable the transferor to convey greater rights than the transferor the actually has.  Subsection (b) makes it clear, however, that the transferee of a nonnegotiable document may acquire rights greater in some respects than those of his transferor by giving notice of the transfer to the bailee. 

owned cotton worth $100,000 .  O gave the cotton to A, one of its truck drivers, with instructions to haul it to the ginhouse.  A stole the cotton and stored it in the W warehouse, which issued a negotiable receipt to “A or order.”  A sold the receipt to P, who did not suspect the theft, for $100,000, indorsing it by signing his name A.

Who gets the cotton?

P would be a holder b/c the document was indorsed by A in blank and delivered to P. 

P meets all the requirements of 7-502 (holder (in possession and bearer instrument), negotiation (indorsed and delivered), purchased, for value, in good faith, without notice, BUT the transfer was not done in A’s regular course of business.  Because the transfer to P was not in A’s regular course of business (A is a truck driver not in the business of selling cotton) the document is not duly negotiated. 

Further, under 7-503, a document of title confers no right in goods against O, who had a legal interest in the goods and did not deliver or entrust the goods or any document of title to the bailor with power to dispose of the goods.  So, O did not defeat his title under 7-503.  Since the document has not been duly negotiated, b/c it did not occur in regular course of business: So don’t have to go to 7-503 b/c 502 is not met.

(a)     When you look at the regular course of business element, you focus on P’s immediate transferor.  Thus, the requirements of due negotiation have been met. P meets all the requirements of 7-502 (holder (in possession and bearer instrument), negotiation (indorsed and delivered), purchased, for value, in good faith, without notice, and was done in the regular course of business. Under 7-503, however, O’s conduct is not blameworthy because O did not give actual or apparent authority to the truck driver to sell the goods.  Driver only had the limited authority to take the cotton to the ginhouse for processing; not storing.  Note: we examine the authority of the bailor/truck driver.

?  O loses the cotton because he entrusted the goods to A with authority to store (thus, O’s conduct was to place cotton into the stream of commerce).  Moreover, P met all of the elements of due negotiation. P meets all the requirements of 7-502 (holder (in possession and bearer instrument), negotiation (indorsed and delivered), purchased, for value, in good faith, without notice, and in the regular course of A’s business.  We look only at the transaction between A and P.  Remember, generally the title of a purchaser by due negotiation prevails over almost any interest in the goods which existed prior to the procurement of the document of title if the possession of the goods by the person obtaining the document derived from any action by the prior claimant which introduced the goods into the stream of commerce.  Was there an entrustment of the goods from O to bailor (A)? Yes, b/c O delivered goods directly to A, and according to 7-503(a)(1)(A) O did deliver and entrust the goods with A with actual authority to store the goods; therefore, O’s title could legitimately be defeated and O cannot do anything about it.  Then also look at types of power: ship, sell, store and nature of the power of disposition. O gave the goods to A and conferred some type of power to A to dispose of the goods. What is the basis of that right? 2-403(2) gives merchant rights to pass title in the ordinary course. If O delivered goods to one who deals in the goods of like kind is like entrusting to merchant who can then sell them. 7-503(b) would have been satisfied that O entrusted goods to bailor w/ “power of disposition under 2-403” (“any entrusting of goods to a merchant that deals in goods of that kind gives the merchant power to transfer all of the entruster’s rights to the goods and to transfer the goods free of any interest of the entruster to a buyer in the ordinary course of business.”).  

Lineburger Bros. grew and ginned cotton.  The cotton was stolen by Carr from the gin and Carr carried the cotton to the defendant warehouse, and, after weighing, the warehouse had receipts issued in three fictitious names and delivered to him.  Carr took the receipts to nearby towns and sold the cotton to three individuals.  The purchasers gave their checks to Carr who procured payment by endorsing them respectively in the names of the three fictitious persons.  The three individuals filed suit against the warehouse praying for the cotton or their money back.  The original owners, Lineburger Bros, intervened but their petition for title was dismissed. Trial court further awarded title to the purchasers of the warehouse receipt recipients who had purchased for value.  The warehouse filed a cross appeal urging that a decree be awarded against the warehouse for the value of the cotton. An owner of cotton may not be divested of title by a trespasser or a thief.  The buyer must beware lest he is buying receipts which have been fraudulently obtained or cotton which has been stolen.  Here, one of two innocent persons must suffer the loss.  The thief has stole or fraudulently obtained property from someone.  We hold that the unlawful act was committed against the owners and that the title to the cotton remains in them.  Caveat emptor applies. Thus, owner may not be divested of title by thief (who was not entrusted w/ goods). 7-503. Three reasons when 7-503 punishes owner: (1) Owner stores goods; (2) Owner authorizes to ship, sell, or store; and (3) Owner gives goods to someone w/ the power of disposition.

UCC 7-501(4) requires that the document have been “duly negotiated” and provides that due negotiation may be negated by showing “that the negotiation is not in the regular course of business and financing.”  Comment 1 states “in order to effect a “due negotiation” the negotiation must be in the “regular course of business or financing” in order to transfer greater rights than those held by the person negotiating.  The foundation of the mercantile doctrine of good faith purchase for value has always been, as shown by the case situations, the furtherance and protection of the regular course of trade.  The reason for allowing a person, in bad faith or in error, to convey away rights which are not its own has from the beginning been to make possible the speedy handling of that great run of commercial transactions which are patently usual and normal.  

·         Comment 1: There are two aspects to the usual and normal course of mercantile dealings, namely, the person making the transfer and the nature of the transaction itself.  The first question that arises is:  Is the transferor a person with whom it is reasonable to deal as having full powers? The second question posed by the “regular course” qualification is:  Is the transaction one which is normally proper to pass full rights without inquiry, even though the transferor itself may not have such rights to pass, and even though the transferor may be acting in breach of duty?  In raising this question the “regular course” criterion has the further advantage of limiting, the effective wrongful disposition to transactions whose protection will really further trade.  Obviously, the snapping up of goods for quick resale at a price suspiciously below the market deserves no protection as a matter of policy:  it is also clearly outside the range of regular course. Any notice on the document sufficient to put a merchant on inquiry as to the “regular course” quality of the transaction will frustrate “due negotiation.”  Thus irregularity of the document or unexplained staleness of a bill of lading may appropriately be recognized as negating a negotiation in “regular course.”

·         A pre-existing claim constitutes value, and “due negotiation” does not require new value. A usual and ordinary transaction in which documents are received as security for credit previously extended may be in “regular course,” even though there is a demand for additional collateral b/c the creditor deems himself insecure. Where a money debt is paid in commodity paper, any question of “regular course” disappears, as the case is explicitly excepted from “due negotiation.” 

CHAPTER 2: FREEDOM FROM DEFENSES; OTHER CONSEQUENCES

General Rule stated in Restatement (Second) of Contracts § 336(1):

By an assignment the assignee acquires a right against the obligor only to the extent that the obligor is under a duty to the assignor; and if the right of the assignor would be voidable by the obligor or unenforceable against him if no assignment had been made, the right of the assignee is subject to the infirmity. 

 , “unless an account debtor has made an enforceable agreement not to assert defenses or claims, and subject to subsections (b) through (e), the rights of an assignee are subject to: (1) all terms of the agreement between the account debtor and assignor and any defense or claim in recoupment (recover) arising from the transaction that gave rise to the contract (with the assignor); and (2) any other defense or claim of the account debtor against the assignor which accrues before the account debtor receives a notification of the assignment authenticated by the assignor or the assignee.”

“an agreement between an account debtor (person who owes the money) and an assignor (the one making the assignment) not to assert against an assignee any claim or defense that the account debtor may have against the assignor is enforceable by an assignee that takes an assignment: (1) for value, (2) in good faith, (3) without notice of a claim of a property or possessory right to the property assigned; and (4) without notice of a defense or claim in recoupment of the type that may be asserted against a person entitled to enforce a negotiable instrument under Section 3-305(a).

“the right to enforce the obligation of a party to pay an instrument is subject to the following: (1) a defense of the obligor based on (i) infancy of the obligor to the extent it is a defense to a simple contract, (ii) duress, lack of legal capacity, or illegality of the transaction, which, under other law, nullifies the obligation of the obligor, (iii) fraud that induced the obligor to sign the instrument with neither knowledge nor reasonable opportunity to learn of its character or its essential terms, or (iv) discharge of the obligor in insolvency proceedings.”

that “the right of a holder in due course to enforce the obligation of a party to pay the instrument is subject to defenses of the obligor stated in subsection (a)(1).  

As an example, buyer would pay for a painting 30 days after delivery and shortly after discovers that the painting was the fake. At the end of the 30 day period, 

Draw this.

Seller (assignor) ß------------------------------------------Buyer (obligor)

I

I

I

I

Purchaser (Assigneee) (holder if they have negotiable instrument)

SECTION I:  NEGOTIABLE INSTRUMENTS

Real defenses can always be raised against a holder in due course; but not personal defenses or claims of recoupment.

Problem 1: By fraudulent representations B sold A a defective machine for A’s factory for $100,000, payable in 30 days.  B assigned the right to payment to the C finance company, which did not know of the fraud and paid B $100,000 less a discount.  On discovery of the fraud, A tendered the machine back to C and refused to pay anything.

(a)     Does Art 3 apply? No, b/c article 3 focuses on negotiable instruments and we are not dealing w/ an instrument here.  Therefore, because it is a simple K assignment, C is subject to A’s defenses.  Note:  with real fraud you look to the knowledge of the individual.  With any other type of fraud that does not relate to knowledge of the terms of the instrument, you have personal defenses.  The general rule is stated in Restatement (Second) of Contracts § 336(1):  By an assignment the assignee acquires a right against the obligor only to the extent that the obligor is under a duty to the assignor; and if the right of the assignor would be voidable by the obligor or unenforceable against him if no assignment had been made, the right of the assignee is subject to the infirmity.  Therefore if A had a claim against B, such that his right is voidable to enforce the instrument b/c of the fraud, then the right of C is subject to the same infirmity. 

Rather, 9-404(a) applies to this situation.  When we have an assignment, unless an account debtor has made an enforceable agreement not to assert defenses or claims, the rights of an assignee (C) are subject to: (1) all terms of the agreement between the account debtor and assignor and any defense or claim in recoupment arising from the transaction that gave rise to the contract.  9-404(a) provides that an assignee generally takes an assignment subject to defenses and claims of an account debtor.  Under subsection (a)(1) if the account debtor’s defenses on an assigned claim arise from the transaction that gave rise to the K with the assignor, it makes no difference whether the defense or claim accrues before or after the account debtor is notified of the assignment.

Fraud and misrepresentation. First Issue: We are dealing with a right to payment arising out of an ordinary contract b/w A and B. In this example, when B assigned his right to payment to C, C became the assignee, B is the assignor and A is the obligor. Under ordinary K principles, when B assigns his rights to C, C then “stands in the shoes” of B gaining not only all of B’s K rights, but he is also subject to all defenses that A could bring against B, such as the defense of fraud that A could raise here.  This, of course, is subject to a “waiver of defense” clause had such a clause been place in the original K b/w A and B.  According to 9-403(b) “an agreement between an account debtor and an assignor not to assert against an assignee any claim or defense that the account debtor may have against the assignor is enforceable by an assignee that takes for assignment: for value, in good faith, and without notice.  Subsection (b), however, does not apply to the real defenses in 3-305(b).  However, from the facts, we aren’t given any indication that such a clause is in effect. Thus, C took rights to payment subject to the fraud defenses that A could raise; and under ordinary K principles, if A can show fraud in the inducement, C will be barred from recovery. 

(a)     As noted above, a “waiver of defense” clause will be given effect in this case. C, again, stands in the shoes of B when he becomes the assignee; meaning, he takes B’s rights to payment as well as becomes subject to all defenses that A could raise against B. Under common law K principles, a waiver of defense clause forfeits A’s right to bring a defense of fraud against the assignor, and consequentially, the subsequent assignee. In such a case as this, A is barred from recovery because this type of fraud is not “fraud in the factum,” a real defense, but this type of fraud is a personal defense.

9-403(b) states that “an agreement between an account debtor and an assignor not to assert against an assignee any claim or defense that the account debtor may have against the assignor is enforceable by an assignee that takes an assignment: for value, in good faith, and without notice of a claim or possessory right to the property assigned, and without notice of a defense or claim in recoupment of the type that may be asserted against a person entitled to enforce a negotiable instrument.”  Subsection (c) states that “subsection (b) does not apply to defenses of a type that may be asserted against a holder in due course of a negotiable instrument under 3-305(b).”  3-305(b) states “the right of a holder in due course to enforce the obligation of a party to pay the instrument is subject to defenses of the obligor stated in subsection (a)(1) (real defenses: infancy of the obligor to the extent it is a defense to a simple contract, duress, lack of legal capacity, illegality of the transaction, fraud that induced the obligor to sign the instrument with neither knowledge nor reasonable opportunity to learn of its character or its essential terms, or discharge of the obligor in insolvency proceedings.) 

If there is a waiver of defense clause, then A can’t assert the defense against C.  However, under 9-403(b) (4), with a waiver an assignee is put in the same position as a holder.  Thus, if A had real defense to assert, the real defense could be asserted because real defenses cannot be cut-off.  But note, the assignee is actually in a better position than a holder, because a mere promise will suffice for value whereas with a holder in a negotiable instrument a mere promise is not sufficient.

§  An assignee can cut off the same defenses that the HIDC would have been able to cut off. Can cut off all personal defenses and claims in recoupment, but not the real defenses. But, only where there is a waiver of defense clause.

§  What definition of value would apply to 1(b)? Look at 9-403, which makes you look at 3-303. If you are a HIDC, you are subject to value definition under 3-303. Is promise to pay considered value? No, this is not value under 3-303. Under old law, look at 1-204 for the assignee. With an assignee, a mere promise would constitute value.

                                                                i.      Comment: Subsection (b) validates an account debtor’s agreement only if the assignee takes an assignment for value, in good faith, and without notice of conflicting claims to the property assigned or of certain claims or defenses of the account debtor.  This section is designed to put the assignee in a position that is no better and no worse than that of a holder in due course of a negotiable instrument under Article 3 (3-302: holder takes the instrument for value, in good faith, without notice).  

9-403 supersedes former 9-206 (former 206 didn’t define value, so the applicable definition of value under this section would have been in 1-204. Under that, a promise even if you hadn’t performed, would constitute value.)  There is a case to be made that if you are focusing on the definition of value under then 9-206, the argument could be made that formerly the assignee was given more favorable treatment than a holder in due course. Why? Under 3-303 a promise to pay where you have not performed is not “value.” If you are an assignee under the old law, a promise to pay would constitute value. In this case, he is given the same rights as a holder in due course under 3-303. But, if this were a negotiable instrument case, the holder would not be in due course.  So, this question addresses this.  Former 206 attempted to put the assignee roughly the same position as the holder in due course, but actually gave him greater protection. 9-403 corrects this problem.  

Former 9-206 essentially puts the assignee in the same position as a holder in due course. Under 9-403, the assignee who takes the assignment for value, in good faith, and without notice can cut off personal defenses and claims in recoupment. But the “value” issue needs to be addressed. Under the old law 1-204’s definition of value a mere promise would constitute value. But, under the new law, 3-303 value controls.  In short, the old law gave better treatment to assignee than holder in due course. But this has been resolved today. To be an assignee, you have to provide value – but value under 3-303 does not constitute a promise of performance. 

Problem 2: By fraudulent representations, B sold A a defective machine for A’s factory for $100,000, payable in 30 days.  In connection with the sale, A executed a negotiable promissory note, promising “to pay to the order of B, $100,000” in 30 days.  B assigned the right to payment and negotiated the note to the C finance company, by indorsing it “pay to the order of C, (signed) B.”  C did not suspect the fraud and paid B $100,000 less a discount.

(a)     On discovery of the fraud, A tendered the machine back to C and refused to pay anything.  Can C recover the $100,000 from A?  Here, as opposed to the preceding question, we are dealing with an instrument and thus, Article 3 is controlling.  The first issue then under an Art 3 analysis is whether C can be considered a “holder in due course” having rights to payment under the instrument terms. Under 3-302, a holder in due course must satisfy the following elements: instrument (promissory note), holder (negotiation of order instrument, indorsement, delivery), value (note: 3-303 defines), good faith, and without notice [that he is subject to any of the defenses in 3-305(a). The elements are satisfied.  The next issue is whether C took the instrument subject to the “real” defenses of A, or if A only has “personal” defenses which C is not subject to.  Under 3-305 an assignee’s right to enforce the obligation on an instrument is subject to the real defenses of infancy, duress, lack of legal capacity, illegality of the transaction, and fraud in the factum.  “Real” fraud would allow A to withhold payment against a holder in due course. Real fraud is “fraud in execution” and the common illustration is that of the maker who is tricked into signing a note in the belief that it is merely a receipt or some other document.  The theory of the defense is that the signature on the instrument is ineffective b/c the signer did not intend to sign such an instrument at all.  Under this provision, the defense extends to an instrument signed with knowledge that it is a negotiable instrument, but without knowledge of its essential terms.  The party must not only have been in ignorance, but must also have had no reasonable opportunity to obtain knowledge.  In this case, A intended to sign the instrument, knew what he was signing, and had knowledge of the essential terms of the document.  There are no facts that show that A was without knowledge (constructive or actual) of either and thus A is left only with personal defenses.

·         First determine if he is a holder in due course. Why? 3-305(b). Second determine if this is a real or personal defense. Note elements: knowledge of character/nature (instrument) and terms (payments). Knowledge is either actual or constructive (i.e. sounding in negligence)

Yes, C takes only subject to real defenses.  3-305(b) states that “the right of a holder in due course to enforce the obligation of a party to pay the instrument is subject to” real defenses…but is not subject to…claims in recoupment stated in subsection (a)(3) against a person other than the holder.”  Comment states: Buyer is obliged to pay the price of the equipment which is represented by the note. But, buyer may have a claim against seller for breach of warranty.  If buyer has a warranty claim, the claim may be asserted against seller as a counterclaim or as a claim in recoupment to reduce the amount owing on the note.  It is not relevant whether seller is or is not a holder in due course of the note or whether Seller knew or had notice of the warranty claim.  It is obvious that the holder in due course doctrine cannot be used to all seller to cut off a warranty claim that buyer has against seller.  Subsection (b) specifically covers this point by stating that a holder in due course is not subject to a “claim in recoupment…against a person other than the holder.”  Claims in recoupment, like personal defenses are not applicable as against a holder in due course. Put another way, C being a holder in due course, cuts off all claims of recoupment. However, if C took with notice, then he wouldn’t be a holder in due course and would be subject to the recoupment defense. Note also, that A has a claim against B for breach of warranty. Claim in recoupment – claim of obligor against the assignor (not the assignee). What is it for? To compensate the obligor for expenses incurred. Any time you talk about the claim in recoupment it is against the original payee; thus, technically you can’t talk about a claim of recoupment against C. Why? Because there was no contract b/w the two. 

What are the Characteristics of Negotiable Instruments—3-104? 

Unconditional promise or order to pay a fixed amt of money w/ or w/o interest or other charges described in the promise or order

1. Promise/Order
2. Payment of money to: Bearer or Order to Identified person 3-109
   1. A promise or order is payable to bearer if it (i) states that it is payable to bearer or to the order of bearer or otherwise indicates that the person in possession of the promise or order is entitled to payment; (ii) does not state a payee; or (iii) states that it is payable to the order of cash or otherwise indicates it is not payable to an identified person.
   2. A promise or order that is not payable to bearer is payable to order if it is payable (i) to the order of an identified person.
3. Promise must be unconditional 3-106
   1. Generally a promise will not be unconditional if it states a condition to payment, that the promise or order is subject to or governed by another record, or that rights or obligations with respect to the promise are stated in another record.
   2. The purpose of neg inst. To pass freely in commerce; the imposition of a condition makes it difficult – subsequent transferees will not know if the condition has been satisfied and will therefore be insecure. You should never impose a condition.
   3. A promise or order is not made conditional (i) by reference to another record for a statement of rights with respect to collateral, prepayment, or acceleration, or (i) because payment is limited to resort to a particular fund or source. 
4. To pay a fixed sum of money
   1. Under section 3-104(a) the requirement of a “fixed amount” applies only to principal. 3-112 states that unless otherwise provided in the instrument, an instrument is not payable with interest, but if an instrument does call for interest to be paid—does not affect the character of the instrument. (3-112)
5. Contain no other promises, orders, or obligations
   1. A single purpose/objective/goal expressed in the instrument. (i.e. I promise to pay $20 & clean up your house.)
   2. Reference to another doc for rights related to the collateral will not defeat the use of the document as a negotiable instrument (3-106(b)).
6. Sum should be “payable on demand” or at “a definite time” 3-108
   1. A promise or order is payable on demand if it (i) states that it is payable on demand or at sight, or otherwise indicates that it is payable at the will of the holder, or (ii) does not state any time of payment.  If you note that it is payable on demand or if you left it blank.
   2. A promise or order is payable at a definite time if it is payable on elapse of a definite time period of time after sight or acceptance or at a fixed date, subject to rights of prepayment, acceleration, and extension.  

Would the answer to the preceding problem be different if the body of the promissory note read as follows:  “For value received, I promise to pay to the order of B, $100,000 payable $50,000 in six months after date and $50,000 in 12 months after date, with interest payable monthly at 3% over Chase Manhattan Prime to be adjusted monthly, with the privilege of discharging this note by payment of principal less a discount of 5% w/i 30 days from the date hereof.  The entire principal of this note shall become due and payable on demand should the holder at any time deem itself insecure.  This note is secured by a security agreement of the same date to which reference is made as to rights in collateral.”

Go through the Elements:

1. Promise/Order

There are two choices for something to come in as a negotiable instrument: (a) promise (i.e. promissory note) or (b) order (i.e. check). This piece of paper is not a check but a promissory note.

2. Payable to Bearer/Order

This is an order document.

3. Unconditional

3-106(b)—a reference to another note that describes rights doesn’t render this “conditional.”

4. Fixed Sum (see §3-112; 3-104)

You can still calculate w/ certainty at any time the amount to be paid. 

The issue of a discount wouldn’t be a problem either b/c you can still calculate

5. No other promise

6. Payable on Demand 

It is clear that the 6 major elements are satisfied and so this can be classified as a negotiable instrument/promissory note.

: Fazzari signed promissory note thinking it was something else. Fazzari could not read or write but his family in the house at the time he signed the note. Fazzari discovered the fraud and told his bank and the Odessa bank not to accept the note and Odessa’s teller assured him that they would not honor the note. The note was presented and Odessa honored the note. Then Fazzari’s bank refused to pay Odessa for the note. Court found that Fazzari could not assert the real defense of fraud in factum b/c Fazzari was negligent in that he did not get his wife to read the instrument. However, the court found that eh bank was not a HIDC b/c it had notice of the fraud in the inducement. Bank pled the “Forgotten Notice Doctrine” (a lapse of memory and omission to look for the notice constitutes mere negligence which does not destroy the bank’s status as a HIDC) but the court said the bank gave Fazzari further assurances which took the case out the Forgotten Notice Doctrine. Because the bank was not a holder, it could not cut off Fazzari’s personal defenses.

• Insolvency/ Bankruptcy Discharge: If an obligor files for bankruptcy, the bankruptcy is an automatic defense.

subsection (a)(3) is concerned with claims in recoupment which can be illustrated by the following example.  Buyer issues a note to the order of Seller in exchange fro a promise of seller to deliver specified equipment. If seller fails to deliver the equipment or delivers equipment that is rightfully rejected, buyer has a defense to the note b/c the performance that was the consideration for the note was not rendered (3-303(b)).  That defense can always be asserted against Seller.  

In this case, buyer does not have a defense under 3-303(b).  Seller delivered the equipment and the equipment was accepted.  Under Article 2, buyer is obliged to pay the price of the equipment which is represented by the note.  But buyer may have a claim against seller for breach of warranty.  If buyer has a warranty claim, the claim may be asserted against seller as a counterclaim or as a claim in recoupment to reduce the amount owing on the note.  It is not relevant whether seller is or is not a holder in due course of the note or whether seller knew or had notice that buyer had the warranty claim. It is obvious that the holder in due course doctrine cannot be used to allow seller to cut off a warranty claim that buyer has against seller. Subsection (b) specifically covers this point by stating that a holder in due course is not subject to a “claim in recoupment…against a person other than the holder.”  

.  If holder had notice of buyer’s warranty claim at the time the note was negotiated to holder, holder is not a holder in due course (3-302) and buyer may assert the claim against holder (3-305(a)(3)) but only as a claim in recoupment, i.e., to reduce the amount owed on the note.  If holder had no notice of buyer’s claim and otherwise qualifies as a holder in due course, buyer may not assert the claim against holder.  

Defenses

UCC 3-305 sets out the defenses which are available. Chapter 8 of the E&E covers defenses.

The holder in due process is protected against personal defenses. However, the holder in due process is not protected from real defenses such as those related to the type of paper. 

SECTION 2:  DOCUMENTS OF TITLE

Problem 4: B fraudulently induced the A warehouse to issue a negotiable warehouse receipt for $100,000 worth of cotton that was not delivered to it.  B duly negotiated the receipt to C, who did not suspect the fraud and paid B $100,000.

(a)     C can recover from A because A relied on C’s description of the goods.  Under 7-203 “a party to or purchaser for value in good faith of a document of title…that relies upon the description of goods in the document may recover from the issuer damages caused by the misreceipt or misdescription of the goods”—unless, the document conspicuously indicates in a disclaimer that the issuer does not know whether all or part of the goods in fact were received or conform to the description.”  A will try to claim that it does not have to pay because the goods were not received.  Because A did not disclaim, A will be liable to C.  As to C’s recourse against B—7-507 states that “if a person negotiates or delivers a document of title for value…unless otherwise agreed, the transferor, in addition to any warranty made in selling or leasing the goods, warrants to its immediate purchaser only that: (i) the document is genuine, (2) the transferor does not have knowledge of any fact that would impair the document’s validity or worth; and (3) the negotiation or delivery is rightful and fully effective with respect to the title to the document and the goods it represents.”  C may bring a breach of warranty on negotiation or Delivery of Document of Title.  Would it make a difference if the warehouse receipt had not been indorsed?  When the problem relates to the purchaser, negotiation and indorsement are irrelevant.  7-203 liability only requires that the party be a purchaser for value in good faith and rely on the description of the goods when taking the document.  It doesn’t require a due negotiation. 

(a)     Under 2-703, the purchaser for value in good faith of a document of title that relies upon the description of the goods in the document may recover from the issuer damages caused by the mis-description of the goods.  This qualifies as a mis-description and the bailee will be liable.  The bailee could have disclaimed his liability by placing language that “contents, condition, or quantity unknown” or “said to contain” on the receipt.  But note, if, however, the bailee has knowledge of the error, he will still be liable.

(a)     Under 7-204(a) a “warehouse is liable for damages for loss of or injury to the goods caused by its failure to exercise care with regard to the goods that a reasonably careful person would exercise under similar circumstances.  The bailee will be liable under 7-204 if he failed to use due care that a reasonable person would have used.  If the bailee/A would have limited its liability, the amount of damages owed could have been reduced.  7-204(b) states that “damages may be limited by a term in the warehouse receipt or storage agreement limiting the amount of liability in case of loss or damage beyond which the warehouse is not liable.”  Answer affected by language in these forms pg. 73-75 – limitations clause important to limit the value liable under negligence.

I.C.C. Metals, Inc. v. Municipal Warehouse Co.

                                                              i.      Goods taken to warehouse, no disclosure of the value of the goods to the warehouse. When bailor demands return of the goods, the bailee couldn’t find them. Complaint filed for conversion.

                                                            ii.      Warehouse is not an insurer of goods see pg 110.

                                                          iii.      Why does law deny the bailee the right to rely on contractual limitation in instances of conversion? B/c would otherwise encourage wrongdoing. Warehouse would gain the difference b/w the actual value and the contractual liability.

                                                          iv.      Imposes burden of proof on the bailee for negligence: warehouse has to explain why goods cannot be located. Then burden shifts and the bailor has to show fault on part of the bailee. If cannot show fault then will not recover anything. If bailee does not come forth w/ explanation, then presumption of negligence and will have to pay full value.

                                                            v.      Why burden on bailee? b/c in better position to know what happened.

                                                          vi.      This court applied the same standard of care as used in negligence to the conversion claim. Justified its position for same reason as requiring the bailee to come forward to explain b/c the bailee has taken the goods for its own use and it is even less likely that the bailor could ever find out the real facts. Here there was no credible evidence nor was there explanation for the loss.

pleading and proof. These consequences are:

                                                               i.      Consideration: Every negotiable instrument is presumed to have been issued for consideration, so that even when the instrument remains in the hands of the original payee, the burden is shifted to the obligor on the instrument to show that there was no consideration.

                                                             ii.      Discharge: The issue under discharge is whether the obligor must pay attention to the whereabouts of the writing that evidenced the obligation. An obligor on an ordinary contract right can safely deal w/ the original obligee in discharging the obligation, even if the right is evidenced by a writing, unless the obligor has received notice of an assignment.  Restatement (Second) of Contracts states:  “notwithstanding an assignment, the assignor retains his power to discharge or modify the duty of the obligor to the extent that the obligor performs or otherwise gives value until but not after the obligor receives notification that the right has been assigned and that performance is to be rendered to the assignee.”  The obligor of a negotiable instrument or document of title, however, cannot safely deal with the original obligee w/o paying attention to the writing that embodies the obligation.

1.       Assignment: Obligor of an ordinary K can deal w/ the original oblige. 9-406(a). Under the UCC, the obligor can discharge the K with the original obligee, until the obligee/assignor or assignee gives notice to the obligor that there has been an assignment.

2.       Negotiable Instruments: With a negotiable instrument, the obligor can’t safely deal w/ the original oblige w/o seeing the instrument. Under UCC 3-602, the obligor can discharge the instrument if: 1) payment comes from a party obliged to pay the instrument (obligor); and 2) payment is to a person entitle to enforce the instrument.

This question does not deal with a document of title or negotiable instrument.  Thus, it is simply a contractual assignment.  Because A did not know the assignment was made, A was entitled to pay B, the original obligee, until B informed A of the assignment.  It is really in C’s best interest to immediately notify A of the assignment.  A’s payment to B therefore discharges A’s payment obligation under the contract.  Under 9-406, “an account debtor on an account…may discharge its obligation by paying the assignor until, but not after, the account debtor receives a notification, authenticated by the assignor or the assignee, that the amount due or to become due has been assigned and that payment is to be made to the assignee. After receipt of the notification, the account debtor may discharge its obligation by paying the assignee and may not discharge the obligation by paying the assignor.”  A can pay B at any time before being notified of the assignment.  Here you cannot say that A did not discharge his obligation—b/c he  had no notice.  A must have notice.  A delay on C’s part would adversely affect C’s interests.  Once the notification is given, C is protected under 9-406.  

This question is dealing with a negotiable instrument.  The rule under 3-602 is that “an instrument is paid to the extent payment is made by or on behalf of a party obliged to pay the instrument, and to a person entitled to enforce the instrument.”  The obligor must pay the person entitled to enforce the instrument/note.  C received the note through due negotiation and is thus a HIDC.  C therefore became entitled to enforce the note, and if C does not receive payment, he can still enforce against A, even though A paid B.  The instrument still has an obligation to pay.  The instrument was paid by A to B at the time when C had the instrument.  In this case, C is entitled to enforce.  3-301 defines “person entitled to enforce” an instrument as the “holder of the instrument.”  As the debtor you need then to pay the holder of the instrument.  You need to ask to see the instrument to ensure that you pay the right person.  IF it is a negotiable instrument, the focus is on Article 3.  In order to be a holder, you must have the instrument in your possession.  The reasoning is that negotiable instruments are negotiable and can be transferred—always ask to see the instrument.  B could never be the holder b/c he doesn’t have possession of the instrument (1-201—holder means the person in possession).  Ask to see the persons ID and the negotiable instrument.  

Problem 7: B, a dealer in cotton, deposited $100,000 worth of cotton with the A warehouse, which issued a negotiable warehouse receipt to B’s order.  B negotiated the receipt to C, who paid B $100,000.  Later, on demand by B, A redelivered the cotton to B.

                                                               i.      Yes, because B not a holder of the warehouse receipt.  This problem deals with a document of title.  Under 7-403, “a bailee shall deliver the goods to a person entitled under a document of title;” therefore, the document of title must be looked at to determine who is the holder.  A did not look for the person entitled to the document under 7-403.  C is the holder and has the right to the cotton.  This involves a document of title and the rules are addressed in Articles 3 and 9, and article 7 is pertinent.  The person “entitled under a document of title” is the holder—7-102(a)(9) defines who comes in “person entitled under a document” and says he is the holder in the case of a negotiable document of title.    A needs to see the negotiable instrument and the persons ID.  A delivered the goods to a person not entitled under the document. Further, the bailee warehouse is not protected under 7-404 which provides “a bailee that in good faith has received goods and devliered or otherwise disposed of the goods according to the terms of the a document of title is not liable for the goods.”  Here, the warehouse did not act in good faith according to the terms of the document of title, so not protected under 7-404.  Under 7-502, “a holder to which a negotiable instrument of title has been duly negotiated acquires thereby: title to the document and title to the goods.”  Therefore, once the warehouse receipt was duly negotiated, only C had title to the goods.   

“SPENT” INSTRUMENTS AND DOCUMENTS

General Rule stated in Restatement (Second) of Contracts § 336(1):  By an assignment the assignee acquires a right against the obligor only to the extent that the obligor is under a duty to the assignor; and if the right of the assignor would be voidable by the obligor or unenforceable against him if no assignment had been made, the right of the assignee is subject to the infirmity.

                *This rule is different for a negotiable instrument or document of title.

No, because a GFP who takes payment right cannot rely on writing as indication that the obligation has not been discharged.  This problem deals with the assignment of a contract right.  A is not obligated to pay C under 9-406 because under a K assignment, the assignee only receives the rights that the assignor had. 9-406(a) states that “an account debtor on an account…may discharge its obligation by paying the assignor until the account debtor receives a notification that the amount due has been assigned and that payment is to be made to the assignee.”  Restatement 336 states that “the assignee acquires a right against the obligor only to the extent that the obligor is under a duty to the assignor; and if the right of the assignor would be voidable by the obligor or unenforceable against him if no assignment had been made, the right of the assignee is subject to the infirmity.”  A can pay B at any time unless A receives notice that an assignment has been made by B.  Here, the assignment was not made until after A had already discharged his obligation. B had no rights under the K because A’s obligation was discharged.  C thus does not receive any rights under the assignment.  Use 9-406 when there is no negotiable instrument but a contract assignment.  No notation is required in a written K, as here.  

?  Yes—under the promissory note.  The only way to discharge an obligation w/ a neg. inst. is by paying the holder of the instrument—ask to see the instrument and make a notation on the instrument.  Once A paid B, A should have made a notation on the instrument that the obligation was discharged.  By not doing so, B could re-negotiate.  Because C was a HIDC, C can make A pay.  3-601(b) states that a discharge is not effective against a third party, C, who has not received notice of the discharge of payment from A to B.  3-601 states, “Discharge of the obligation of a party is not effective against a person acquiring rights of a holder in due course of the instrument without notice of the discharge.”    A should have made a notation on the instrument to protect his interests under 3-601, thus giving C notice of the discharge (3-601(b)).  Under 3-602(a), “an instrument is paid to the extent payment is made by or on behalf of a party obliged to pay the instrument, and to a person entitled to enforce the instrument.”  Here, payment has not been made to C b/c he is entitled to enforce the instrument since he is a HIDC.  A is still obligated to pay the instrument until notification is placed on the instrument discharging the obligation.  (CB says 3-305 also applies?)

1.       Instrument: governed by Article 3, a negotiable instrument.

2.       Value: 3-303(a)(1): the instrument is issued or transferred for a promise of performance. Promise was to pay $100k.

3.       Notice: w/o notice of the theft.

4.       Good faith: honesty in fact and the observance of reasonable commercial standards of fair dealing. (1-201) P did not suspect anything.

5.       Holder: 1-201(21): a person in possession of neg. instrument that is payable either to bearer or order. P is in possession so P is a holder.

B, a dealer in cotton, deposited $100,000 worth of cotton with the A warehouse, which issued a negotiable warehouse receipt to B’s order.  On demand by B, A redelivered the cotton to B but left the “spent” warehouse receipt in B’s hands w/o any notation on it.  B negotiated the receipt to C, who paid B $100,000 w/o knowing of the redelivery of the cotton to B.

                                                               i.      Yes, because the bailee/A must deliver the goods entitled on the document.  The bailee is liable to any subsequent party to whom the document is negotiated if the bailee fails to discharge its obligation by making a notation on the document.  As long as the subsequent holder is a HIDC, the holder is entitled to enforce.  Under 7-403(a) “a bailee shall deliver the goods to a person entitled under a document of title.”  Here, the bailee must deliver to C, the person entitled under the document of title.  7-403(c) gives the A warehouse explicit instructions that “the bailee shall cancel the document or conspicuously indicate in the document the partial delivery or the bailee is liable to any person to which the document is duly negotiated.”  Under 7-502 when B negotiated the document to C, C became entitled to all the rights under the instrument—all the rights B originally had. 7-502 states that “a holder to which a negotiable document of title has been duly negotiated acquires title to the document and title to the goods.”  Therefore, when the title was negotiated to C, C became entitled to the goods.  

PART II:  PAYMENT TRANSACTIONS:  THE CHECK AND ITS SUBSTITUTES

a person who signs or is identified in a draft as a person ordering payment.  

3-103(4): Drawee:  a person ordered in a draft to make payment—the institution, the Bank. 

4-105(2): Depository Bank:  First bank to take an item even though it is also the payor bank, unless the item is presented for immediate payment over the counter.  We should not assume this bank will always make the payment—only when the drawer of the check and the holder of the check bank at the same institution.  

4-105(3): Payor Bank:  Bank that is the drawee of a draft. 

4-105(4): Intermediary Bank:  A bank to which an item is transferred in course of collection except the depository or payor bank. 

4-105(5): Collecting Bank:  A bank handling an item for collection except the payor bank.  

4-105(6): Presenting Bank:  A bank presenting an item except a payor bank.  The last bank to handle the item before the payor bank. Literally presents the item to the payor bank. 

?  3-108 states that it is either “payable on demand” or “payable at a definite time.”  To whom is it payable?  3-109 states that it is either payable to order or to bearer.  

Regulation CC § 229.12:  Availability Schedule

(a)     Local checks—“A depository bank shall make funds deposited in an account by a check available for withdrawal not later than the second business day following the banking day on which funds are deposited, in the case of a local check.”

(b)     Nonlocal checks—“A depositary bank shall make funds deposited in an account by a check available for withdrawal not later than the fifth business day following the banking day on which funds are deposited in the case of a non-local check. 

Regulation CC § 229.10:  Cash Deposits

Regulation CC § 229.30:  Paying Bank’s Responsibility for Return of Checks

(a)     If a paying bank determines not to pay a check, it shall return the check in an expeditious manner as provided in either paragraph (a)(1) or (a)(2) of this section.”

1)       Two-day/Four-day Test.  A paying bank returns a check in an expeditious manner if it sends the returned check in a manner such that the check would normally be received by the depositary bank not later than 4 pm of—

                                                                i.      The second business day following the banking day on which the check was presented to the paying bank, if the paying bank is located in the same check processing region as the depositary bank; or

                                                               ii.      The fourth business day following the banking day on which the check was presented to the paying bank, if the paying bank is not located in the same check processing region as the depositary bank.

2)       Forward Collection Test.  A paying bank also returns a check in an expeditious manner if it sends the returned check in a manner that a similarly situated bank would normally handle a check—

                                                                i.      Of similar amount as the returned check;

                                                               ii.      Drawn on the depositary bank; and

                                                              iii.      Deposited for forward collection in the similarly situated bank by noon on the banking day following the banking day on which the check was presented to the paying bank. 

Insufficient Funds: 3 issues: 

rights of the drawer against its (payor) bank, rights of the holder against the same bank, and claims by the holder against the drawer/parties who did not issue the check but endorsed the check after it was issued.

“A payor bank is liable to its customer for damages proximately caused by the wrongful dishonor of an item.  Liability is limited to actual damages proved and may include damages for arrest or prosecution of the customer or other consequential damages.”  

“items may be accepted, paid, certified, or charged to the indicated account in any order.”  4-303 allows banks to pay items in any order.  

“a payor bank’s determination of the customer’s account balance on which a decision to dishonor for insufficiency of available funds is based may be made at any time between the time the item is received by the payor bank and the time that the payor bank returns the item or gives notice in lieu of return, and no more than one determination need be made.”  The bank’s duty is to conduct an examination at the time it receives the item (4-402(c)).  

“A “customer” is a person having an account with a bank or for whom a bank has agreed to collect items, including a bank that maintains an account at another bank.”  Broad definition.  

SECTON 1:  LIABILITY ON DISHONOR

Problem 1: After drawing the Empire check, Stacey Smith stops payment on it, using the form on p. 222 infra, at a time when Empire has a balance of $40,000, and withdraws all but $10,000 from the account.  When Quaker presents the check, the Bank of NY dishonors it, indicating on the return item stamp “insufficient funds.”  A criminal proceeding is instituted against Smith under a penal statute making it a crime to draw a check with knowledge that sufficient funds are not on deposit.  After Smith’s arrest and release on bail, the information is dismissed.  Smith sues the Bank of New York alleging the above facts and claiming damages for harm to business reputation and credit and for legal expenses in connection with the criminal charges.  On the Bank of New York’s demurrer to the complaint, what decision? (Consider whether Smith was a “customer” and whether there was a “wrongful dishonor.”)  What issues resist in regard to Stacy as a customer?

1.       Issues about Stacy as a customer:  Section 4-402 has been construed to preclude an action for wrongful dishonor by a plaintiff other than the bank’s customer.  4-402 states that “a payor bank is liable to its customer for damages proximately caused by the wrongful dishonor of an item.”  The first issue is whether Stacy is a “customer” of the bank because she issued the check on behalf of the corporation.   4-403 states that “a customer or any person authorized to draw on the account may stop payment of any item drawn on the customer’s account.”  Stacy did stop payment on the account, and therefore she could be either a “customer” or simply “a person authorized to draw on the account.”  4-104(a)(5) defines customer as “a person having an account with a bank or for whom a bank has agreed to collect items, including a bank that maintains an account at another bank.”  Stacy, though, does not have an account with the bank, but Empire does, and the bank has agreed to collect items for Empire, not Stacy.  Really it turns on whether a court would use a narrow or broad interpretation of the word “customer.” “Reasonably foreseeable” is the standard. If it is reasonably foreseeable that she would be harmed by the wrongful dishonor, then under 4-402, she can hold the bank liable. 

Moreover, because she suffered individual harm, i.e., arrested, she can sue in her individual capacity.  4-402(b) provides for damages to a customer, including actual damages proved and damages for arrest and prosecution of the customer.” 

But also make a case based upon the dissenting opinion:  the corporation really exists separately as a corporate entity and the corporation is not undercapitalized.  Stacey and the corporation are not one and the same. There is no personal guaranty to pay loans here as in Parrett—no personal guarantee, so argue Parrett doesn’t apply. Argue Stacy would not be a customer under 4-402. 

As a general rule a shareholder may not bring an action in his or her own name to recover for wrongs done to the corporation or its property.  The well-recognized exception is that if the SH properly establishes an individual cause of action b/c the harm done to the corporation also damaged the SH in his or her individual capacity, rather than as a SH, such individual action may be maintained.  The SH must demonstrate their was a special duty, such as a contractual duty, between the wrongdoer and the SH or that the SH suffered an injury separate and distinct from that suffered by other SHs. In terms of the SH, there must be a special duty owed by the bank to the SH.  The facts do not disclose any special duty. 

Alternative argument: 1-103: “Unless displaced by the particular provisions of the UCC, the principles of law and equity”—common law—applies.  Stacy, even as a non-customer could bring an action against the bank.  First, we must show that the common law cases have NOT been displaced.  On the one hand argue, those common law cases have NOT been displaced and are relevant.  On the other hand, argue displacement based on captions.  

4-402(a) was not properly payable b/c of the order to stop payment—but the bank made a notation “insufficiency of funds.”  The action was really for “rightful dishonor.”  No claim for this under 4-402 b/c it only deals with “wrongful dishonor.”  So, Stacy should try to bring a claim under common law principles for defamation: 1-103 defamation argument.  First, see whether common law cause of action has been displaced.  Argue yes/no according to caption headings (1-107).  4-402 Comment 5:  section 4-402 should not be interpreted to displace the cause of action that exists at common law.  No displacement of common law action by non-customer.  No wrongful dishonor b/c Stacy Smith authorized the “stop payment” order.  The bank honored her wishes.  Not a wrongful dishonor but the item is improperly payable.  The bank was well within its rights NOT to pay. 

If the bank makes the statement “Refer to Maker” it can avoid wrongful dishonor liability because the reason given is inconsistent with dishonor.  However, CC 229.30(d) requires a payor bank “returning a check” to “clearly indicate on the front of the check that it is a returned check and the reason for return.”  Comment 30(d) says that a reason such as “refer to maker” is permissible in appropriate cases.”  {IS THIS AN APPROPRIATE CIRCUMSTANCE?} “Refer to maker” is an acceptable reason for returning the check.  Liability kicks in when there is wrongful dishonor under 4-402, so if in a given case you can state that a bank has NOT wrongfully dishonored a check—then the bank avoids liability.  3-505 defines dishonor.  3-505(a)(2) states “the following are admissible as evidence and create a presumption of dishonor and of any notice of dishonor stated: a purported stamp or writing of the drawee, payor bank, or presenting bank on or accompanying the instrument stating that acceptance or payment has been refused unless reasons for the refusal are stated and the reasons are not consistent with dishonor.”  In sum, this says a dishonor of a check is wrongful dishonor unless the reasons for refusal are stated and are not consistent with dishonor.  You need a (1) refusal and (2) reasons that are stated (3) that are inconsistent with dishonor.   “Refer to maker” is very general and will be a reason that will not automatically be considered consistent with dishonor.  Technically, this should enable a payor bank to avoid liability; however, collecting banks submitting to the payor bank will not be happy if they always get the reason “refer to maker” rather than a concrete reason the check was not paid. Payor banks found that this was too burdensome b/c all banks keep calling you to ask, what does this “refer to maker” really mean?  Why didn’t you pay the check? Technically, though, other than the inconvenience of it, payor banks could use this and prevent liability in all cases.  Then, if banks call the payor bank and the payor bank has to give a reason “consistent with dishonor”, like insufficient funds, and would be on the hook for liability.  Amounting to a dishonor:  insufficient funds or made to a non-existent account (2 obvious cases of dishonor—exam)—the reason given must be “consistent with dishonor” in order to dishonor the check.  So, really there is no great advantage or release of liability.  

Along with the Empire check for $22,178.50, three other checks drawn by Empire, for $2000, $5000, and $10,000, are presented in the same bundle at the Clearing House.  Empire has only $24,000 in its account. What may the Bank of New York do w/o risking liability under 4-402? 

1.       No.  4-402: A bank “wrongfully dishonors” an item that is properly payable.  If the first item received by the bank is the $2,000 check, the bank must look at customer’s account balance and the check can be paid.  Refusal to pay would result in a “wrongful dishonor.”  As long as there are sufficient funds to cover the checks, they must be paid.  The last check for $22,178 cannot be paid b/c of insufficient funds.  The bank must pay some of the checks, but not all of them.  We must pay attention to the ORDER in which the checks are presented!!  For the bank, it is good to start off with the very large item so that they can charge a fee for dishonor for the remaining three items. 4-303(b): If its on the same day the items are collected and processed together—You cannot restrict the bank’s freedom to process the checks in any order if the checks were presented on the same day.  

1.       Yes.  

1.       Yes. The order would determine the number of checks dishonored.  If you start with the smaller items, it helps the customer.  The bank only makes a single determination under 4-402(c) of the account balance and is not required to make more than one evaluation.    

1.       Yes.  The bank is free to dishonor as many checks as is legally possible.  It could dishonor 10 small checks and pay the large one.  Banks make money from these fees.  This has to be qualified by the fact that banks are under a general duty to act in good faith.  If they were to arrange the checks in a purposefully evil way, that would be a breach of their obligation.  Banks cannot manipulate the order to benefit themselves.  

Parrett was the principal shareholder, president, and chief operating officer of P&P Machinery.  He gave a personal guarantee for all loans taken out on behalf of the company.  Check was issued and dishonored, and Parett was charged with felony theft.  Parrett alleged wrongful dishonor of the check, arguing he was entitled to damages under 4-402.  Parrett alleges he has standing to bring suit under 4-402 b/c he is the President and principal shareholder of the company and as such he was a “customer” of the bank.  1^st holding:  The Court held that Parrett was a “customer” of the bank within the meaning of 4-402 and that he can state a cause of action for wrongful dishonor of the check.  The parties’ business relationship, which included Parrett’s personal guaranty for P&P Machinery’s obligations to the bank, was such that it was reasonably foreseeable that dishonoring the corporation’s check would reflect directly on Parrett. (Moreover, Comment 4 to 4-402 states that “some courts have allowed a plaintiff other than the customer to sue when the customer is a business entity that is one and the same with the individuals operating it.”)  Second issue:  Parrett brings an action as principal shareholder.  As a general rule a shareholder may not bring an action in his or her own name to recover for wrongs done to the corporation or its property.  The well-recognized exception is that if the SH properly establishes an individual cause of action b/c the harm done to the corporation also damaged the SH in his or her individual capacity, rather than as a SH, such individual action may be maintained.  The SH must demonstrate there was a special duty, such as a contractual duty, between the wrongdoer and the SH or that the SH suffered an injury separate and distinct from that suffered by other SHs. The Court held the history of the relationship between the bank and P&P Machinery, which included Parrett’s personal guaranty for the corporations obligations to the bank, provides special circumstances, and therefore there was a special duty owed by the bank to Parrett as principal SH of P&P Machinery.

·         Narrow definition of “customer:” only party to qualify as customer would be P&P Machinery.  Broad definition extends it to individuals allowed to act on the corporation’s behalf.

·         Dissent:  The checking account stood in P&P Machinery’s name, an existing corporation with a long history of credit transactions with the bank.  Nothing indicates that the bank ever disregarded the corporate existence of P&P Machinery and treated Parrett as the principal or otherwise identified Parrett as the individuals responsible for satisfaction of the corporation’s obligations to the bank.  You could not pierce the corporate veil here as in Kendall.  P&P was not undercapitalized and was a separate legal entity. 

When there are insufficient funds, when the customer tells the bank to stop payment.  If a zealous prosecutor wants to claim wrongful dishonor and recover when there were insufficient funds or a stop payment request, no recovery under 4-402 b/c no wrongful dishonor.  Argument under 1-103?  Could argue defamation and that common law cases were not displaced and are relevant.  4-402 doesn’t displace those common law cases which allow recovery for defamation—no clear language to suggest a displacement and therefore they are relevant and should be considered.  Argue opposite—there was a displacement.  Caption headings 1-107:  4-402 says “Bank’s liability to customer for wrongful dishonor.”  Defamation is not included in the title, so there is no recovery for it and it has been displaced.  

1-107 allows you to use “section captions.”  Argue that there was/was not displacement under 4-402 b/c of 4-402’s title section.  Only pertains to customer’s and not to non-customers; therefore the common law can supplement.  The caption heading to 4-402 is “Bank’s liability to customer for wrongful dishonor.”  Does not pertain to non-customers; therefore, leaves a hole for common law to supplement the UCC. Recovery by a non-customer: Macrum v. Security Trust & Savings Co. (pg. 151). 

3-501(b)(2) states that “upon demand of the person to whom presentment is made, the person making presentment must (i) exhibit the instrument, (ii) give reasonable identification, and, if presentment is made on behalf of another person, reasonable evidence of authority to do so, and (iii) sign a receipt on the instrument for any payment made or surrender the instrument if full payment is made.” The bank may demand reasonable identification.  How long can the payor bank take to satisfy itself?  3-502(b)(2) says that the check is dishonored if presentment for payment is duly made and the draft is not paid on the day of presentment.  But 3-501(b)(4) allows the bank to “treat presentment as occurring on the next business day after the day of presentment if the party to whom presentment is made has established a cut off hour not earlier than 2pm for the receipt and processing of instruments presented for payment or acceptance and presentment is made after the cut-off hour.” 

No.  4A-305, a receiving bank is not liable for consequential damages for failure to execute a payment order except “to the extent provided in an express written agreement of the receiving bank.” 

that “a bank is under no obligation to a customer having a checking account to pay a check, other than a certified check, which is presented more than six months after its date.” The time limit is set at six months b/c banking and commercial practice regards a check outstanding for longer than that period as stale, and a bank will normally not pay such a check w/o consulting the depositor.  

That is the case that is presented on pg. 180 of the E&E. The basic assignment talks about the assignor assigning all of his rights…however, the drawer can stop payment. The assignment policy does not work very well, because the check writer can stop rights at any given time. Because of all these possibilities, it would not be wise to consider a check assignable. 

“a check or other draft does not of itself operate as an assignment of funds in the hands of the drawee available for its payment, and the drawee is not liable on the instrument until it accepts it.”  Comment 1 to 3-408 suggests that “a bank that has not certified a check may engage in other conduct that might make it liable to a holder” and that “section 1-103 is adequate to cover those cases.”  3-408 suggests that there would be times the instrument would operate as an assignment.  “A check or other draft does not of itself operate as an assignment.”  The parties can agree to take the check as an assignment, but specific steps must be taken. 

upon its acceptance of the instrument where it imprints its signature on the instrument.  

 At the time that Empire draws the check at page 131 [in the amount of $22,178.50 payable to Quaker Manufacturing Co.], it has $40,000 in its account in the Bank of New York.  The Bank of New York has not yet paid the check.

1.        The Bank of NY is the payor bank or drawee, and the holder is Quaker.  Empire is the drawer of the check.  Quaker may try to argue that the check is an assignment.  As long as the Bank of New York has not accepted the check, it will not be liable (3-408 states that the drawee is not liable on the check until it accepts it.)  Under the UCC a check does not act as an assignment. Therefore, because the bank did not sign the check, thus failing to accept the check, the bank is not liable. The check, by itself, does not operate as an assignment. Quaker’s argument would fail.  There are, however, times when the check may operate as an assignment—when the two parties go to the bank and have the check certified (bank deducts the amount from the drawer’s account and puts it aside into a special account).  Quaker may try to argue under 3-409 that the bank is liable to the holder b/c it accepted the check.  3-409 states that “acceptance” means the drawee’s signed agreement to pay a draft as presented.  However, under 3-401 the payor bank must have signed the check in order to be liable on the instrument. 

1.        Since there is no assignment by the making of the check, the judgment creditor of Empire may attach the account funds and get all of Empire’s assets.  Any time you make a deposit into the bank, it is treated as if the bank owes you the debt.  For that reason, the $40,000 is called a “debt.”  A creditor is always interested in laying hands on all assets owned by Empire—As a creditor you can reach all or a portion of the assets. 

1.        No, until the Empire check is accepted by the Bank of New York, Quaker has no interest in the account.  Until Quaker can make a claim, the creditor of Quaker may not make a claim.  B/c the bank hasn’t accepted the check under 3-401 or 3-409, Quaker has no claim to the money.  B/c the check does not operate as an assignment Quaker is not entitled to any funds—and the judgment creditor must suffer the same fate. 

1.        Yes, the trustee of Empire in bankruptcy has an interest in the account and may attach the assets.  Trustee should be able to claim any part of the $40,000 assets.

Due to the garnishments, State Bank of Southern Utah had first access to the funds.  Argument that the State Bank should have no right to the funds—b/c the check from Stallings was an assignment of $2,200.  If the parties had agreed for there to be an assignment, and had taken the Stallings check to the bank to get it certified—there would have been a valid assignment.  What does it mean to be certified?  2-409 states that “certified check” means a check accepted by the bank on which it is drawn.  It is possible to come to an agreement to an assignment—requires an agreement between the holder and drawer of the check and then it should be taken to the payor bank to be certified.  The rule: check does not operate as an assignment b/c drawer can still stop payment or close account—still has control.  It is only when the bank accepts it that it will be paid.  In this case, the bank never accepted the check. 

When that amount is certified the money is drawn out the drawee’s account. It can be done by simply placing a stamp on it. With certification some of the problems of the assignability would be taken away. So the buyer would lose control. 

treated like checks under the UCC.  3-104(f) states that “an instrument may be a check even though it is described on its face as a “money order.”  For money orders, they are subject to similar rules—owner can stop payment, and drawee bank cannot on its own stop payment on the money order issued. The seller (issuing bank) is not going to be liable under the terms of the money order unless it has shown it has accepted the check. 3-408 states that “the drawee is not liable on the instrument until the drawee accepts it.”  3-401 states that “a person is not liable on an instrument unless the person signed the instrument.”

• Comment 1 to 4-401:  The signature may be made by the obligor personally or by an agent authorized to act for the obligor.  It is not necessary that the name of the obligor appear on the instrument, so long as there is a signature that binds the obligor.  Signature includes an indorsement. A signature may be typed, handwritten, printed or made in any other manner.  It may be made by mark or thumbprint.

Union Bank bears the loss—court focuses on whether the money order is described as a check. Reasons:  (1) custom and practice of the business community to accept personal money orders as a pledge of the issuing bank’s credit (custom as justification for the court’s holding: everyone counts on the issuing bank to pay and the bank cannot renig on that promise now); (2) Signature: 3-401 once payor bank signs the instrument they are liable (bank’s name is stamped on the order—the bank’s signature was considered to be where the banks’ name was printed on the front of the money order—sufficient to find the bank liable); (3) Acceptance: 3-409 By issuing the money order, it has “accepted” the order and is therefore liable for it.  Act of issuance amounts to an acceptance.  (4) Drawee cannot stop payment:  Finally, banks are not allowed to stop payment on their depositor’s checks and also should not be able to stop payment on money orders. 

• Dissent:  J. Dudley states that a money order is NOT equivalent to a check.  It contains a signature and takes the form of an order to pay and is payable upon demand—all of these things make it like a check, not a note.  No officer from the bank signed the check.  Basically, if you consider the typed name of the bank as evidence of a signature, the bank would be liable on every money order.  You should not rely on this type of information as the bank’s signature as a basis for liability under 3-408.  Acceptance: bank was not liable from the issuance of the money order—if bank’s obligation is automatic and a money order is stolen, it would be inconsistent with the right to stop payment which is recognized for both checks and money orders.  These rights would be inconsistent with each other—bank is not liable at issuance b/c the purchaser could never stop payment.  If we take the side that issuance constitutes acceptance as the majority holds, then it is irrelevant to consider whether the drawee can stop payment.
• Majority is wrong about acceptance.  And about signature—DISSENT is CORRECT. Majority is only right that b/c a drawee (bank) cannot stop payment of the check, they should not do so for money orders. 
• Comment to section 3-104, #4 states “the most common form of money order sold by banks is that of an ordinary check drawn by the purchaser except that the amount is machine impressed.  That kind of money order is a check under Article 3 and is subject to a stop payment order by the purchaser-drawer as in the case of ordinary checks.  The seller bank is the drawee and has no obligation to a holder to pay the money order.

Yes.  The purchaser may stop payment, just not the bank—According to the Comment #4 of 3-104, which states, “the most common form of money order sold by banks is that of an ordinary check drawn by the purchaser except that the amount is machine impressed.  That kind of money order is a check under Article 3 and is subject to a stop payment order by the purchaser-drawer as in the case of ordinary checks.  The seller bank is the drawee and has no obligation to a holder to pay the money order.”  Would your answers be affected if banks’ advertisements suggested that personal money orders were more reliable than personal checks? No, shouldn’t affect it at all. Under 3-408 and 3-401 should not be liable at all.

Buyer who wishes to make payment to seller by a cashier’s check or teller’s check, may have it made payable  to buyer’s own order and later indorse it to seller, or may have it made payable to seller’s order.  In this latter case, buyer is known as a “remitter.”  “Remitter” means a person who purchases an instrument from its issuer if the instrument is payable to an identified person other than the purchaser.”

• (h) "Teller's check" 
• (i) "Traveler's check" 

means a draft drawn by a bank (i) on another bank, or (ii) payable at or through a bank. 

means an instrument that (i) is payable on demand, (ii) is drawn on or payable at or through a bank, (iii) is designated by the term "traveler's check" or by a substantially similar term, and (iv) requires, as a condition to payment, a countersignature by a person whose specimen signature appears on the instrument.

Tender of payment is usually a condition to the seller’s duty to tender and complete any delivery under 2-511.  2-511(2) states that “tender of payment is sufficient when made by any means or in any manner current in the ordinary course of business unless the seller demands payment in legal tender and gives any extension of time reasonably necessary to procure it.”

Dishonor is governed by 3-502.  Subsection (a) refers to dishonor of a note and subsection (b) refers to dishonor of an unaccepted draft.  Dishonor usually consists of the maker’s or drawee’s refusal to pay when the instrument is presented for payment.  Thus, a check is dishonored if, on presentment, the payor bank refuses to pay it for reasons other than those in 3-501(b)(3):  “without dishonoring the instrument, the party to whom presentment is made may (i) return the instrument for lack of a necessary indorsement, or (ii) refuse payment or acceptance for failure of the presentment to comply with the terms of the instrument.”  However, presentment is excused in the situations described in 3-504, as where the drawer of a check has stopped payment or has no right to expect payment of an overdraft.  Evidence of dishonor is dealt with in 3-505.

If the instrument is dishonored and it happens that the oblige of the obligation for which the obligation was taken was the holder, then the obligee can enforce it. In looking at a dishonor, the person in possession

Notice of Dishonor

 3-503(a)

provides that notice of dishonor “must be given (i) by the bank before midnight of the next banking day following the banking day on which the bank receives notice of dishonor of the instrument, or (ii) by any other person within 30 days following the day on which the person receives notice of dishonor.”

.  If the holder delays presentment of a check, and during the delay the payor bank becomes insolvent—3-414(f) provides that if the delay exceeds 30 days and the payor bank suspends payment, “the drawer to the extent deprived of funds may discharge its obligation to pay the check by assigning to the person entitled to enforce the check the rights of the drawer against the drawee with respect to the funds.”  The likelihood of discharge of the drawer by delay in presentment is therefore remote.

The check when it is dishonored: the drawer of the check would remain liable according to its terms. The issue about transfer warranty will only kick into. 

3-415(e) states that an indorser is discharged by a 30 day delay in presentment, regardless of whether the delay has caused any loss to the indorser.  “If the check is not presented for payment, or given to a depository bank collection, within 30 days after the indorsement was made, the liability of the indorser is discharged.”  Also, under 3-503, the same result follows from failure to give timely notice of dishonor.  Delay is much more likely to result in the discharge of an indorser than in the discharge of a drawer.  

Under 3-310(b) and 2-511, a check is ordinarily taken as conditional rather than absolute payment—contingent upon their being sufficient funds, no stop payment order, and no closing of the account—suspending the obligation rather than discharging it. 

In the unlikely event that a drawer, having given a check in payment of an obligation, is deprived of funds by delay in presentment and discharges its obligation to pay the check by an assignment under 3-414(f), payment of the check discharges the underlying obligation under 3-310(b)(1).  If a payee, having indorsed a check in payment of an obligation, is discharged by delay in presentment or notice of dishonor, the underlying obligation is also thereby discharged under 3-310(b)(3).  

states that “a person who transfers an instrument for consideration warrants to the transferee and, if the transfer is by indorsement, to any subsequent transferee, that:

1. the warrantor is a person entitled to enforce the instrument;
2. all signatures on the instrument are authentic and authorized;
3. the instrument has not been altered;
4. the instrument is not subject to a defense or claim in recoupment of any party which can be asserted against the warrantor;
5. the warrantor has no knowledge of any insolvency proceeding commenced with respect to the maker, acceptor, or drawer. 

states “a customer or collecting bank that transfers an item and receives a settlement or other consideration warrants to the transferee and to any subsequent collecting bank that:

1. the warrantor is a person entitled to enforce the instrument;
2. all signatures on the instrument are authentic and authorized;
3. the instrument has not been altered;
4. the instrument is not subject to a defense or claim in recoupment of any party which can be asserted against the warrantor;
5. the warrantor has no knowledge of any insolvency proceeding commenced with respect to the maker, acceptor, or drawer. 

Warranties are important in four situations: 

1. Where an instrument payable to bearer is negotiated by delivery without indorsement, the transferor does not make the indorser’s engagement but does make implied warranties to his immediate transferee
2. Where an instrument is negotiated by indorsemetn that includes such words as “without recourse” the transferor does not make the indorser’s engagement, but does make implied warranties to the transferee and subsequent holders.
3. Where an instrument is negotiated by the usual indorsement, but the transferor is discharged from the indorser’s engagement b/c of delay in presentment or notice, the transferor may still be liable to the transferee or subsequent holders on warrainties that are not so conditioned.
4. Where an instrument is negotiated by the usual indorsement, but payment is refused for a reason not consistent with dishonor, such as forged indorsement, the transferor may be liable on the warranties though not on the indorser’s engagement. 

4-214(a) gives the collecting bank a right to “revoke the settlement given by it” and “charge back the amount of any credit given for the item to its customer’s account, or obtain refund from its customer.” In order to preserve this right, however, the bank must either return the item or send notification of the facts to its customer “by its midnight deadline  or within a longer reasonable time after it learns the facts.” 4-104(a)(10) defines “midnight deadline” as “midnight on its next banking day following the banking day on which it receives the relevant item or notice.”

                4-214(a) states that “if the return or notice is delayed beyond the bank’s midnight deadline or a longer reasonable time after it learns the facts, the bank may revoke the settlement, charge back the credit, or obtain refund from its customer, but it is liable for any loss resulting from the delay.”  A collecting bank loses its rights only to the extent of damages for any loss resulting from the delay.

With each negotiable instrument issued, you have two obligations: (1) the contractual obligation and (2) the obligation under the instrument.  You cannot enforce both of them, you must enforce one or the other.

3-310 governs circumstances when contractual obligation can be enforced.  

1. 3-310(a) When a certified check (personal check the bank has agreed to pay), cashier’s check (3-104 defines it as “a draft with respect to which the drawer and drawee are the same bank.”) or teller’s check (3-104: “a draft drawn by a bank (i) on another bank, or (ii) payable at or through a bank.”) is taken for an obligation, the obligation is discharged.  It’s as if you’ve made a cash payment.
2. 3-310(b):  If it is a note or uncertified check, the obligation is suspended until payment or discharge.  The following rules apply: (1) suspension continues until the instrument is paid or dishonored. 
3. 3-310(b)(3):  Where the check is dishonored and the obligee is taken as the holder, that obligee can either enforce the instrument or the contract obligation but not both.  Seller is obligee and buyer is the obligor under 3-310(b)(3).  If buyer has paid using a check that is subsequently dishonored, the seller can choose to enforce the contractual obligation or the obligation under the instrument. 
4. 3-310(b)(3):  If for any reason obligor’s liability is discharged, the discharge of the instrument is also a discharge of the obligation.  The “instrument of a third person” is an instrument (check) written by another person—you can endorse that instrument to pay off an obligation. A issues a check (drawer)  made payable to B (endorser), and B then endorses to C, the seller.  If B comes in as an endorser, and B’s rights are for whatever reason discharged on the instrument, his obligation is also discharged. When can B’s obligations be discharged? 3-415 describes them:  there is no liability against the indorser if the check is not presented within 30 days of the indorsement—it would discharge the obligation under the instrument and under the contract. C cannot sue B for the purchase price.

1.  
   • No, that 3^rd party would NOT have privity of contract—not a party to the contract between buyer and seller.Only the original oblige can enforce the contractual obligation so long as he is IN POSSESSION of the instrument.  No one else, no third party, may enforce the contract. 3-310(b)(3).

3-414(b) if an unaccepted draft is dishonored, the drawer is obliged to pay the draft (i) according to its terms at the time it was issued.”  The drawer remains primarily liable under this section. Liability is owed to “the person entitled to enforce the draft or to an endorser who paid the draft.” 3-414(e)—the drawer cannot try to limit its liability “without recourse”—the drawer will remain liable. 3-414(f) says that if (i) a check is not presented for payment or given to a depositary bank within 30 days after its date, [and there is bank failure, which causes] (ii) the drawee suspends payments, and (iii) because of the suspension of payments, the drawer can discharge his obligation under the contract by assigning his writes under the K to the holder of the instrument.   The drawer could transfer his rights to bringing the wrongful dishonor claim to the holder. 

“If an instrument is dishonored, an indorser is obliged to pay the amount due on the instrument (i) according to the terms of the instrument at the time it was indorsed.”