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Wednesday, February 1, 2012

Everything About Crossing of Cheques and Payment There Under by Banks



Crossing of Cheques
Any cheque bearing two parallel transverse lines is deemed to be a crossed cheque (Section 123). The legal effect of such crossing is that the paying bank is not supposed to pay the cheque across the counter but only to a bank.

There are two types of crossing: general and special.
   
1.1 General Crossing 
Drawing two parallel transverse lines on the face of the cheque with or without the words “Not Negotiable”, or drawing two parallel lines and writing words like “& Co.” or any abbreviation in between the lines with or without the words “Not Negotiable” is known as general crossing.
1.2. Special Crossing

Writing the name of the bank in between such transverse lines or simply writing the name of the bank on the face of the cheque would mean Special Crossing. Such crossing could be with or without the words “Not Negotiable”.

The legal implication of such crossing is that the paying banker is bound to pay the proceeds to the so named bank only.

A cheque, which is not originally crossed, can be crossed either generally or specially by the holder. Similarly, the holder can convert the generally crossed cheque into specially crossed cheque. He can also add words like “Not Negotiable”.

When a cheque is specially crossed, the banker, to whom it is crossed, can again cross it especially to another banker who is acting as his agent for collection.

1.3. Not-negotiable Crossing

Crossing a Cheque with the words “not-negotiable” makes it non-negotiable i.e., it cannot give a better title than that which the person from whom he took had. It however doesn’t affect its transferability.

1.4. Account Payee Crossing

By writing words “A/c. Payee” or “A/c. Payee only” on the face of the cheque within the transverse lines and with or without the words “Not Negotiable”, a cheque is made crossed A/c. Payee. This is a direction to the collecting banker to collect the proceeds to the credit of the so named account only. Therefore, a paying banker always tends to ignore these directions as the collecting bank is cast with the responsibility of crediting the proceeds to the right account.

2. Advantages of Crossing

The advantages of crossing a cheque to the customer, paying bank and collecting bank could be summarized as under:
                                i.            A customer, in the event of a fraud, can trace the person to whom the cheque was paid since the paying banker has to perforce pay to a banker alone.
                              ii.            The payment of a crossed cheque amounts to “payment in due course”, i.e., the drawer would be placed in the same position as if the cheque was paid to the true owner.
                            iii.            A paying banker (Section 128) is similarly entitled to the benefit of “payment in due course”, i.e., he gets a right to debit the customer’s account even though the amount is not paid to the true owner.
                            iv.            A collecting banker is entitled to get protection under Section 123 if only he collects a crossed cheque.

3. Holder

Any person who is entitled to the possession of a negotiable instrument in his own name and to receive or to recover the amount due thereon is called a Holder. In other words, to be a holder:
·         One must be entitled in his own name to the possession of the instrument, and
·         One must be entitled to recover the amount due under the instrument.

3.1. Payee or Endorsee Holder

As explained above, a holder will always be a payee or an endorsee of the cheque.

Example:
A cheque for Rs.500 was drawn favouring Laxman. So Laxman is the payee. In other words, he is also the holder. Now suppose, Laxman endorses the cheque in favour of Bharat and Bharat is in possession of the instrument, then Bharat becomes the holder.

3.2. Endorsee for Collection is Holder

Suppose, Bharat now endorses the cheque and deposits it in Bank of India for collection, then Bank of India becomes the holder of the cheque irrespective of the fact that it was lodged for collection.

4. Holder in Due Course

A Holder in Due Course (Section 9) is any person:
·         who for a consideration becomes the possessor of a negotiable instrument if it is a bearer one, or the payee, or endorsee thereof if it is an order instrument;
·         before the amount mentioned in it became payable; and
·         without having sufficient cause to believe that any defect existed in the title of the person from whom he derived the title.

4.1. Conditions for becoming a Holder in Due Course

4.1.1. Consideration

Acquisition of the instrument must always be for a consideration. Consideration must be valuable and lawful. However, inadequacy of consideration does not affect the validity.

4.1.2. Acquisition Prior to Amount Becoming Payable

Acquisition must be prior to the amount becoming payable. In case of a promissory note, the amount thereunder always becomes due on demand. So a promissory note, acquired for consideration prior to making such demand for payment, alone results in “Holder in
Due Course”.

4.1.3. Acquisition without Knowledge of Defects in the Title of Transferor

Acquisition of an instrument without any knowledge of the defects in the title of transferor results in “Holder in Due Course”, although defects surface at a later date.

4.1.4. Acquired in Good Faith

Acquisition must be in good faith and without any reason to suspect that the title is defective.

Example:
Suppose, Khan and Yusuf executed a DP Note favouring Amarnath. Subsequently, Amarnath agrees to hold Khan alone responsible for the liability and relinquishes his claim against Yusuf. Suppose, this promissory note is assigned by Amarnath to Patil and Patil is fully aware that Yusuf has been discharged from the liability by the assignor. Then, Patil cannot sue Yusuf, for Patil is not a Holder in Due Course. However, there is an exception to this: knowledge of defects in the title of prior party is immaterial.

4.1.5. Forged Endorsement is Nullity

A forged instrument does not confer any title, and therefore, a holder of such instrument cannot become a Holder in Due Course.

Example:
Suppose, Khan draws a bill in favour of Suleman. Now Amir forges Suleman’s endorsement and transfers the Bill to Shakeel. Under such instrument, Shakeel cannot claim the status of Holder in Due Course.

5. Privileges of Holder in Due Course

The Negotiable Instruments Act grants the Holder in Due Course the following privileges.

5.1. Authority to Fill an Incomplete Document

The Holder in Due Course has the authority to complete an incomplete instrument for an amount not exceeding the amount covered by the stamp. It means that a Holder in Due Course, by virtue of his possessing a blank negotiable instrument, enjoys the authority to fill the specified amount not exceeding the amount covered by the stamp (Section 20).

5.2. Right to Enforce Payment from Acceptor of the Bill

The Holder in Due Course has the right to enforce payment from the acceptor of bill of exchange, whose drawee and payee are fictitious names and which is payable to the order of the drawer (Section 42).

Example:
Suppose the proprietor of a firm being induced by his personal secretary draws a cheque in favour of Gangaram on account of supplies purported to have been made to his firm. Presume, that the said cheque is now negotiated in favour of Kambli by the personal secretary of the proprietor by forging the signature of Gangaram. Now the said cheque is honoured by the proprietor’s bank. Since Gangaram being a fictitious name, the proprietor cannot recover the amount of the cheque from bank under the plea that Gangaram is a fictitious payee.

5.3. Freedom from Conditions Subject to which an Instrument was Issued

Normally, a holder, being in the know of conditions attached to an instrument and their non-compliance, cannot sue any prior party for payment, if an instrument is issued subject to certain conditions and the said conditions are still to be fulfilled. But, in the case of a Holder in Due Course these restrictions do not apply.

5.4. Right to Enforce Payment of Lost Instrument or that Obtained by Means of Offence, Fraud or Unlawful Consideration
Suppose, Laxmi obtains a negotiable instrument payable to the bearer by means of a theft. She then negotiates the instrument by delivery to Parvati for value, who acquires it without notice of theft. Now, Parvati will be the Holder in Due Course and thus, acquires a valid title not only against Laxmi but against any party prior to her. However, it is to be borne in mind that the Holder in Due Course is entitled to protection against a defective title but not against an absence of title i.e., a forged signature on cheque is absence of title.

5.5. Right of Estoppel: Disputing the Validity of the Instrument

The Holder in Due Course can estop the maker of promissory note, the drawer of the bill or cheque, and the acceptor of the bill, in a suit thereon, from denying the validity of the instrument as originally made or drawn (Section 120).

Example:
Saraswati draws a cheque in favour of Durga but with no consideration. Now, the same cheque was purchased by Ambika for value and in good faith from Durga. In a suit filed by Ambika against the drawer of the cheque, i.e., Saraswati, for recovery of the amount under the cheque, Saraswati is estopped from denying the validity of the cheque drawn by her.

5.6. Right of Estoppel: Denying the Capacity of the Payee
The maker of the promissory note or acceptor of the bill of exchange payable to order are estopped in a suit thereon by the Holder in Due Course from denying the capacity of the payee (Section 121).

5.7. Holder Deriving Title from Holder in Due Course
A Holder of a negotiable instrument, by virtue of his acquiring the title thereon from a Holder in Due Course, acquires all the rights that are otherwise entitled to a Holder in Due Course (Section 53).

It means that, once a defective instrument passes through the hands of a Holder in Due Course, it loses all its defects, and thus, the Holder acquiring the title through a Holder in Due Course is entitled to sue the acceptor, drawer, and all previous parties even though he had notice that the defective one existed, provided he was not a party to that.

6. Presumptions and Estoppels under Negotiable Instruments Act
The ordinary rule of law states that it is for the party claiming benefits under the contract to adduce evidence and prove the existence of contract and its value for consideration. However, under the Negotiable Instruments Act (Section 118), this is not taken cognizance of until the contrary is proved with regard to:

·         Consideration
·         Date of execution
·         Time of acceptance
·         Time of transfer
·         Order of endorsements
·         Stamp affixed, and
·         Holder as holder in due course.

Once a negotiable instrument comes into existence, the burden to prove the contrary, regarding consideration, date of execution, etc., shifts to the other party. Thus, the negotiable instrument, unlike others, has an evidentiary value of itself.

6.1. Consideration

Once the existence of negotiable instruments is proved, the court automatically presumes that there is a consideration. It also presumes that such instruments are accepted, endorsed, negotiated, or transferred for consideration alone. The responsibility of proving the absence of consideration, therefore, shifts to the defendant.

6.2. Date of Instrument

As above, here too the date on the face of the instrument would be treated as the date on which the instrument was made, unless proved otherwise.

6.3. Date of Acceptance

It is always presumed that every accepted bill of exchange is accepted after its making and before the maturity date, unless proved otherwise.

6.4. Date of Endorsement

It is presumed that the endorsements on the instruments were made in the same order in which they appear on the instruments, unless proved otherwise.

6.5. Stamp Duty

It is always presumed that the instruments are adequately stamped, unless proved otherwise.

6.6. Holder in Due Course

A holder is always presumed to be a Holder in Due Course and he need not prove that he has acquired the instrument in good faith and for value, unless proved otherwise.

7. Discharge under Negotiable Instruments
As per the Act, discharge of liability on a negotiable instrument for a maker, acceptor, or endorser could be in any one of the following ways:

7.1. By Cancellation

A holder can cancel the name of the acceptor or the endorser with an intention to discharge him, whereby the acceptor or the endorser and all subsequent parties, who have the right of recourse against such acceptor or endorser, are discharged from the liability to the holder.

7.2. By Payment

The maker or acceptor or endorser stands discharged by making a payment to the holder in due course.

7.3. By Allowing More than 48 Hours

When a holder allows the drawee more than 48 hours exclusive of public holidays to consider whether he would accept the bill, all previous parties not consenting to such allowance of time stand discharged from the liability.

7.4. By Delaying Presentment of Cheque
A cheque is meant for payment within a reasonable time of its issue. Therefore, if the holder fails to present it for payment within a reasonable time of its issue and if the bank fails to pay it, and, in the meanwhile, if the drawer suffers any damage, he stands discharged to the extent of his damages.

7.5. Qualified and Limited Acceptance (Non-Consenting)

The parties, who have not consented to qualifications/limitations imposed on the instrument, stand discharged by qualified or limited acceptance.

8. Liability of Drawer of Bill or Cheque

A drawer of a bill or cheque, is bound to compensate the holder, if the instrument is dishonoured by the drawee or acceptor (Section 30), provided due notice of dishonour is given.

A drawer, while making a bill or cheque undertakes that it will be accepted when presented for acceptance and paid on due date. In other words, until it is accepted, the drawer remains a principal debtor and once it is accepted, he becomes a surety for the said acceptance.

It is, however, of paramount importance that the instruments are presented within a reasonable time for acceptance and notice of dishonour to the drawer.

9. Liability of Drawee of a Cheque

A drawee of a cheque being always a bank, the paying bank must make payment, if it has sufficient funds of the drawer in its hands that are properly applicable to the payment of the cheque (Section 31).

The bank by defaulting in payment becomes liable to the damages, if any, suffered by the drawer.

Let us now critically analyze the words “properly applicable” and “loss/damage”.

Funds are not properly applicable:
·         If the banker has exercised his right of set-off against the balance in drawer’s account;
·         If the banker is restrained by a lawful order or requisition of a competent authority or court from paying the amount out of the drawer’s account; or
·         If the money in the account is impressed with trust and by payment of the cheque, the banker would knowingly be a party to the breach of trust.

Here, the words “loss/damage” mean:
·         Damage for breach of the contract to pay cheque;
·         Damage to the drawer’s general business; and
·         Damage to his general reputation and credit.

To sum up, the bank’s liability to pay the cheque is always to drawer but not to the payee, endorsee, or holder. However, this has got two exceptions:
·         When the payee or the holder does not present the cheque to the banker within a reasonable time, and by the time he presents it, the banker fails; in this case, the drawer is discharged but the holder can claim as a creditor of the banker (Section 84).
·         When the banker pays without due regard to crossing, the true owner can hold him liable (Section 129).

10. Protection to Paying Banker

Protection to Paying Banker is offered under Sections 10, 85, 89 and 128 of the Negotiable Instruments Act, 1881. The underlying principles of these sections are as under:

·         When the banker pays in due course a cheque which is crossed generally or specially to him, he gets a good discharge, even though it may subsequently turn out that the person to whom it was paid had defective title or no title to it (Section 128).
·         When the banker pays in due course a cheque which is payable to order and purports to be endorsed by or on behalf of the payee or further endorsee, the banker gets a good discharge, even though it may subsequently turn out that endorsement by payee or any further endorsee was forged or unauthorized (Section 85 & 16 [2]).
·         When the banker pays in due course, and according to its apparent tenor, a cheque which is materially altered but does not appear to have been so altered, or which does not appear to be crossed, or which does not appear to have any marking thereon, indicating an obliteration of a crossing, the banker gets a good discharge, even though it may subsequently turn out that the cheque was materially altered but alterations were not apparent or that it was originally crossed but the crossing was so obliterated as not to appear on it (Section 89).

10.1. Payment in Due Course

You must have noticed that in all the sections quoted above – 128, 85, 89 – the words “pays in due course” appear to be the deciding factor for affording protection. Let us, therefore, examine the words “payment in due course” a little more critically.

As per Section 10, a banker is said to pay a cheque in due course, when he makes the payment to the person in possession of the cheque, according to its apparent tenor in good faith without negligence and under circumstances which do not afford a reasonable ground for believing that the person in possession is not entitled to receive the payment.

“Person in possession”, “apparent tenor”, “good faith”, and “negligence” are again critical words of this Section, perhaps needing further elaboration.

“Person in possession” means a person possessing a cheque and being able to give a valid discharge.

“Apparent Tenor” means as visible on the face of it to the eye.

“Good Faith” is not easy to define. The meaning and interpretation of it varies from one judge to another. Perhaps, a fair definition of the term would be: good faith means absence of bad faith.

“Negligence” means failure to do the legal duty of taking care. Various laws on the matter reveal the following as a broad spectrum of acts of negligence:

·         The bank closed its eyes towards an obvious irregularity;
·         The bank could have detected the irregularity with a little more scrutiny, which it failed to do;
·         The circumstances were such as to induce the bank to make inquiries, which it did not do; it is of no avail for the bank to say that even if it had made inquiries, the answer it would have got would not have affected the action it took. If inquiry was called for and not made, then it is negligence; and
·         The bank did make an inquiry, but the answer it got was not satisfactory or was not such as to remove suspicion from the mind of a reasonable man. Paying a cheque under such circumstance is tantamount to negligence as stated in Section 10.

10.2. No Statutory Protection for a Forged Cheque

No statutory protection is available to the banker paying a cheque on which the drawer’s signature is forged, for a forged instrument does not afford valid mandate.

11. Protection to Collecting Banker

Before getting into the protection afforded by the Act, let us first understand what “conversion” stands for:

“Any person, who, however innocently,
obtains the possession of goods of another,
who has been fraudulently deprived of the possession of them,
and disposes of them whether for his own benefit or that of
some other person
is guilty of conversion.”

Let us suppose, Ram draws a cheque on Kiti Bank favouring Suresh and mails it to Suresh. In transit, it is stolen by Mohan. Now, Mohan goes to Eastern Bank Ltd. posing as Suresh and somehow manages to open an account with fake introduction, etc. Then he
deposits the cheque in the account. Now, Eastern Bank Ltd., mails it to Kiti Bank for collection. Kiti Bank pays the cheque in due course. The money is received in the account of fictitious ‘Suresh’ (Mohan) with Eastern Bank. Mohan subsequently withdraws it and disappears.

Under the common law, the act of Eastern Bank Ltd. is termed conversion and is liable for conversion. Usually, a collecting banker runs the risk of being accused of such conversions/collection for wrong persons.

It is in this context, the Negotiable Instruments Act affords certain protection against the liability for conversion under Section 131, which reads as under:

“A banker, who has in good faith and without negligence,
received payment of the customer
of a cheque crossed generally or specially to himself
shall not, in case the title to the cheque proves defective,
incur any liability
to the true owner of the cheque
by reason only of having received such payment.”

However, with the amendment to the Act in 2002, a new explanation is added to section 131, according to which, it shall be the duty of the banker who receives payment based on an electronic image of a truncated cheque held by him, to verify the prima facie genuineness of the cheque to be truncated and any fraud, forgery or tampering apparent on the face of the instrument that can be verified with due diligence and ordinary care.

Now let us take a look at the explanation of these words.

11.1. Good Faith and Without Negligence
It is difficult to define “good faith and without negligence”. The only explanation could be absence of bad faith. Here, Section 90 of the English Bill of Exchange Act may come to our rescue, since it says that “a thing is deemed to be done in good faith if, in fact, it is done honestly”; and here again “honesty” is a relative term.

The negligence of the Collecting Banker is of varied nature and can take any of the following forms:
·         Not making enquiries at the time of opening the account;
·         Collecting a cheque that is known to be of an employer in the personal account of the customer without due enquiries;
·         Collecting a company’s cheque in the Director’s account without due enquiries;
·         Collecting a cheque of a firm in the partner’s personal account without due enquiries;
·         Collecting a cheque drawn favouring a public authority in the account of an individual without due enquiries;
·         Failing to take cognisance of certain circumstances that should create suspicion in the mind of the banker regarding the true ownership of a cheque, though the customer is the holder of a cheque;
·         Not paying proper attention to the form of drawing a cheque;
·         Not noticing an apparent irregularity in the endorsement on the cheque; and
·         Failing to notice the unusually huge amount of the cheque, i.e., larger than any previous cheque deposited in the account.

Some of the defences open to the Collecting Banker against alleged negligence could be:
·         To state that the act does not amount to negligence;
·         To rely on estoppel (but this rarely carries conviction); and
·         To rely on contributory negligence of true owner.

11.2. Received Payment

Here, the words “received payment” stand for the function that the bank carries out, i.e., it includes and covers all acts preceding and ancillary to the actual collection of the cheque, such as crediting the amount of cheque to the customer’s account before sending it for collection. Such crediting obviously makes the banker a holder in due course and therefore, he can claim protection under this section, which is available for a collecting banker.

However, with the addition of the following explanation to Section 131 of the Act, this dispute has been eliminated once for all:

“A banker receives payment of a crossed cheque for a customer
within the meaning of this section notwithstanding that he
credits his customer’s account with the amount of the cheque,
before receiving payment thereof.”

11.3. For the Customer

The collection of non-customer’s cheques does not afford protection and we have seen in the first unit as to who constitutes a customer.

11.4. Of a Cheque
Protection under the section is available only in respect of a cheque. A forged cheque cannot satisfy the definition of the cheque given under Section 6 read with Section 5, and the collecting banker prima facie cannot claim protection under this section.

11.5. Crossed Generally or Specially to Himself

The collecting banker cannot claim protection if the cheque is uncrossed. However, the collecting banker, being entitled himself to receive the amount of the cheque, is a holder. Hence, he is authorized by Section 125 to cross and uncross a cheque. He can resort to this provision and can claim protection under Section 131.

11.6. In Case the Title to the Cheque Proves Defective
Any cheque that has been obtained by means of an offence, fraud, unlawful means, or unlawful consideration, under common law, has a defective title. The collection of such defective cheques would amount to conversion by the collecting banker but for the provisions of Section 131.

11.7. (Shall Not) Incur any Liability

If the conditions set out in the Section are satisfied, the collecting banker gets full immunity.

11.8. To the True Owner

A true owner is the payee or holder in due course, i.e. the person entitled to enforce the instrument against the drawer at the time of alleged conversion.

The collecting banker’s duty to exercise care and collect a cheque in good faith and without negligence is towards the true owner only and nobody else.

11.9. By Reason Only of Having Received Such Payment

The collecting banker is protected only if he is held liable for collecting the cheque and all other steps preceding it.

11.10. Duty of the Banker under the New Explanation Added to Section 131 under the Amendment to NI Act 2002

It is the duty of the banker, who receives payment based on an electronic image of a truncated cheque held by him, to verify the prima facie genuineness of the cheque to be truncated and any fraud, forgery or tampering apparent on the face of the instrument that can be verified with due diligence and ordinary care.

GRK Murty

2 comments:

Ronyjoseph Joseph said...

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Burton Adam said...

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