Definition and types of Negotiable instrument
What is negotiable instrument;-
The word 'negotiable' means, "transferable from one person to another in return for consideration". The word 'instrument' means, "a written document by which a right is created in favour of some person". Hence, the term Negotiable Instrument means "a document in writing which creates a right in favour of some person", and which is freely transferable by delivery.
According to Section 13(1) of the Negotiable Instrument Act, "A negotiable instrument means a promissory note, bill of exchange or cheque payable either to order or to bearer".
Types of Negotiable Instrument;-
Three major types of Negotiable Instruments
The three major forms of a negotiable instrument discussed under the Negotiable Instruments Act of 1881 are:
l Promissory Note,
l Bill of Exchange and
l Cheque.
What is Promissory Note?
A "promissory note" is in an instrument in writing, containing an unconditional undertaking signed by the maker, to pay on demand or at a fixed or determinable future time] a certain sum of money only to, or to the order of a certain person, or to the bearer of the instrument.
For example;-
A signed instrument in the following terms: "I promise to pay B or order Rs. 500." This will form a promissory note.
Feature of promissory note;-
A Promissory note should have the following features :-
l An unconditional undertaking to pay
l Must be in writing
l Amount to be paid should be specified or certain
l Promissory Note must be payable to or order of a certain person or to bearer
l Must be signed by the maker
l Must be stamped as per Indian Stamp Act
Parties of promissory note;-
There are two parties to a promissory notes ;
Promisor;-
The person (maker of PN) who promise to pay the money is called the promisor (debtor).
Promisee;-
person who is entitled to receive the money is called promisee (creditor).
Types of Promissory Note
Demand Promissory Note :-
Promissory Notes which are payable immediately on demand are called Demand Promissory Notes. There is no specification of a fixed period for repayment. It must be paid when demanded.
Demand promissory note is governed by the Negotiable Instruments Act, 1881 and attracts stamp duty as per the Stamps Act.
If a demand promissory note is unstamped or is under stamped it cannot be rectified even by paying a penalty. It even cannot be admitted as evidence in a court of law. Hence it must be ensured that the demand promissory note is duly filled in and sufficiently stamped before the borrower signs it.
Usance Promissory Note :
Promissory Notes which are payable after a predecided definite period are called Usance Promissory Note. Usance PN also need be stamped.
Is Bank Note / Currency Notes a Promissory Note ?
No, Currency Note or Bank Note is not a promissory note. Because they itself are money and don’t fulfill the conditions of the Promissory Note.
What is Bill of Exchange?
A "bill of exchange" is an instrument in writing containing an unconditional order, signed by the maker, directing a certain person to pay on demand or at a fixed or determinable future time, a certain sum of money only to, or to the order of, a certain person or to the bearer of the instrument.
Features of Bill of Exchange :-
l It is unconditional order to make payment
l It must be in writing
l It should be signed by the Maker of the Bill
l Amount should be specified or certain
l The date of payment should be specified on Bill.
l It should be payable to specific person.
l Amount in Bill is payable either on demand or on expiry of a fixed period of time.
l It must be stamped as per law.
Parties of bill of exchange;-
There are three parties involved with a Bill of Exchange :
Drawer :-
The Person who write the Bill or seller of goods is called the drawer.
Drawee :-
The person on whom the Bill of Exchange is drawn is called the drawee or who pay the amount specified on bill of exchange to payee. The person may be buyer of goods. Drawee becomes acceptor on acceptance of Bill of Exchange for payment.
Payee :-
The person who is entitled to receive the amount from acceptor is called “Payee”. Drawer of the bill himself will be the payee if he keeps the bill with him till the date of its payment.
How does a Bill of Exchange Works ?
Suppose Mr. Ali wants to purchase some electronics item from Manufacturer (Mr. Raza), but he has no money.
Manufacturer (Mr. Raza) agrees to sell the items to Mr. Ali on 60 days credit worth ₹50,000/-.
To ensure the payment on due date, Manufacturer (drawer) draws a bill of exchange for ₹ 50,000/- on Mr. Ali (drawee).
Before it is accepted by ALI it will be called draft. It will become a bill of exchange when it is accepted by Ali and sign it by writing the word ‘Accepted’.
It becomes Bill of Exchange Receivable for Mr. Raza and Bill of Exchange Payable for Mr. Ali.
Drawer keeps the Bill till due date and present it on due date before drawee and receive payment. It is known as realization of Bill.
What is Cheque?
Under the Section-6 of the Negotiable Instruments Act, 'a cheque is a bill of exchange drawn on a specified bank and not expressed to be payable otherwise on demand.'
Cheque is a type of negotiable instrument.
Features of Cheque;-
l Cheque should be writing and signed by the drawer.
l It contains an unconditional order.
l It can be paid to bearer on demand.
l The amount should be specified and should be clearly mentioned both in figures and words.
l It is drawn on a specified bank.
l Unlike Bill of Exchange, it does not require acceptance
Parties in cheque;-
There are three parties in Cheque Transaction – Drawer, Drawee and Payee.
Drawer (Maker of Cheque);-
The person who issue the cheque or hold the account with bank.
Drawee;-
The Person who is directed to make the payment against cheque. In case of cheque, it is bank.
Payee;-
A person whose name is mentioned in the cheque or to whom the drawee makes payment. If drawer has drawn the cheque in favour of self then drawer is payee.
Payment by Cheque is safest way to conduct business transactions as it helps to maintain record in account statement to whom the payment is made by whom payment is received. So it becomes easier to track the transactions through bank account statement.
Different Types of Cheque
There may be different types of Cheques depending on how the drawer has issued the Cheque.
1. Open / Bearer Cheque
2. Order Cheque
3. Crossed Cheque
4. Anti Dated Cheque
5. Post Dated Cheque
6. Stale Cheque
7. Mutilated Cheque
Here we will discuss about different types of cheque with their features in detail :
Open Cheque or Bearer Cheque;-
This type of Cheques are risky in nature for drawer. When the word “Bearer” on the cheque is not crossed or cancelled, the cheque is called a bearer cheque. Open / Bearer Cheques are payable to person specified in the instrument or any person who posses it and present for payment over the counter. In case of cheque is lost, person who find it can collect payment from the bank.
Order Cheque
When the word “Bearer” written on cheque is crossed or cancelled it becomes an order cheque. An order Cheque is payable to a specified person named in the cheque or any other to whom it is endorsed.
Crossed Cheque;-
The person who issue or write the cheque specify its as account payee by simply making two parallel lines on top left or middle or right hand corner of the cheque. This type of cheque can not be encashed over the counter. Considered as safest type of cheque, it can only be credited to payee’s account whose name is mentioned in the Cheque.
Anti Dated Cheque;-
Cheque bearing the date earlier than the date of presentation for payment is known as anti dated cheque.
Post Dated Cheque;-
Cheque bearing the date which is yet to come in future is called Post Dated Cheque. Cheque is honored only on or after the date (upto three months) written on cheque.
Stale Cheque;-
A Cheque turns stale after three months of the date written on cheque. A Stale Cheque can not be honored by the bank.
Mutilated Cheque;-
When cheque gets torn into two or more pieces and presented in bank for payment. Such cheques are called mutilated cheque. Bank requires confirmation by the drawer before honoring such cheques.
Differences between a Cheque and Promissory Note.
l A Promissory Note is an unconditional promise to make payment either in installment or in one go at a future date or on demand. While cheque in an order to make payment in one time.
l Promissory note can never be conditional while cheque can be conditional.
l There are two parties to a Promissory note – Maker and Payee. In Case of Cheque, three parties – Drawer, Drawee and Payee.
l Cheque is drawn on a bank while Promissory Note can be made by any individual in favour of his creditor.
l Cheque can be drawn in favour of self mean drawee can be payee but promissory note is always drawn in favour of another person.
l Acceptance is not necessary in case of promissory note but in case of cheque, acceptance is required of the payee before it written.
