Deck 24: Liabilities of Parties, Holders in Due Course and Defenses

Question 1

While employed as the bookkeeper by City Rentals Inc. (City), Robin Bauer forged several checks on City's account and deposited them directly into Rodney Kesler's bank account to repay money she had borrowed from him. Kesler never saw or indorsed the checks and had no idea the funds had been embezzled. City notified Kesler that Bauer had forged the checks, and demanded that he return the funds. Kesler refused, so City sued him. He argued that because he had received the checks as payment of debts, he was a holder in due course and did not have to return the money. Should City be able to recover the funds? [City Rentals Inc. v. Kesler, 946 N.E.2d 785 (Ohio Ct. App.)]

Answer 1

Holder in Due Course:
Under the UCC § 3-302(a) , a holder in due course is one who has taken an instrument that does not appear to be forged for value in good faith without notice of defenses or problems with the note, and the note is not rendered void by law.
The three conditions that must be met for a holder to be a holder in due course are as follows:
1. The holder acquires the instrument or note in good faith and for value.2. The holder is not given any notice that the instrument or note has been dishonored or is overdue.3. The holder is not given any notice that there are defenses or claims against the instrument when the instrument or note is negotiated.Limited Defense:
Limited or personal defenses differ from universal defenses because they may not apply to a holder through a holder in due course or holder in due course.Ordinary contract defenses may be used against holders who are not through a holder in due course.Fraud in the inducement occurs when a person knowingly and intentionally causes a person to execute an instrument or make an agreement or render a judgment; e.g., misleading someone about the true facts. The defrauded party intended to enter into a contract. This is not a defense against a holder in due course.Conditional delivery - when an instrument is delivered before the conditions attached to the instrument are met, the receiver or holder may be sued for performance. If that instrument is further negotiated to a holder in due course, the maker must honor it.
Improper completion - if the drawer delivers an incomplete instrument to another, s/he cannot defend against a holder in due course.Payment or part payment - if a negotiable instrument has been paid, the party that paid must demand the instrument because if s/he does not, the instrument may be successfully negotiated to a holder in due course.
Nondelivery - When an instrument or note is made out but not delivered, it is not collectable by the payee. If that same instrument is found and negotiated to a holder in due course, s/he is entitled to recover the amount against the maker.
Theft - theft does not pass good title unless the item is negotiated to a holder in due course who is entitled to recover against the stolen paper.
Universal Defense:
A universal defense is one that must be preserved against any holder or suing party and they include:
1. Minority status
2. Forgery except where the defendant's negligence contributed to loss
3. Fraud with respect to the terms or type of instrument
4. Bankruptcy discharge
Legal Reasoning:
In City Rentals, Inc. (City) v. Kesler , 191 Ohio App.3d 474, 2010-Ohio-6264, 946 N.E.2d 785 (Ohio Ct. App.), the trial court dismissed City's case. The appellate court affirmed because Kesler received payment of an antecedent debt in good faith without knowledge that the payer embezzled the funds.
Therefore, City should NOT be able to recover the funds.

Question 2

Under what circumstances is the defense of fraud as to the nature of the instrument and its essential terms unavailable?

Answer 2

Universal Defense:
A universal defense is one that must be preserved against any holder or suing party and they include:
1. Minority status
2. Forgery except where the defendant's negligence contributed to loss
3. Fraud with respect to the terms or type of instrument
4. Bankruptcy discharge
Therefore, a holder that was induced to sign an instrument without knowledge that it was actually a commercial paper is defended against action. This defense fails against parties who, through their own negligence, sign an instrument.

Question 3

Kenneth Wulf's job for Auto-Owners Insurance Co. was to decide whether Auto-Owners would pursue a claim. If so, he was to put a note in the file. When a check was received, clerical staff attached it to the file and gave the file to Wulf. He was to note receipt of the check in the file, complete a transmittal form, and return the check to the clerical staff. No record was kept of checks received or of pending claims. Wulf opened an account at Bank One in the name, "Auto Owners Insurance." Wulf would work on a claim but not note anything in the file. When a check arrived, the clerical staff would attach it to the file and give it to Wulf. He would take the check, indorse it with a stamp he had made that said "Auto Owners Insurance Deposit Only," and deposit it in his Bank One account. The checks were payable to "Auto-Owners Insurance," "Auto- Owners Insurance Company," and "Auto-Owners Insurance Co." When the embezzlement was discovered, Auto-Owners sued Bank One. Was Bank One liable?

Answer 3

No , Bank O was not liable in this case as they have clearly followed the rules while taking up the checks from Mr. W. The faults were mainly of Company A which "substantially contributed" to their losses as they did not keep proper tabs on the workings of Mr. W and could not keep a note of the number of checks coming to the bank. Hence it was not a mistake on the part of Bank O.

Question 4

Marie Hunt signed a promissory note in the amount of $35,000, payable to Robert Rice and secured by a mortgage on real property. Rice had given her only $23,354.87, which, Hunt claimed, she had repaid in full. For $25,000, Rice had assigned the note to Invest Co., which for $27,182.41 had assigned it to Chrysler First Financial Services Corporation. NationsCredit Financial Services Corporation was the successor corporation to Chrysler First and was the assignee of the note and mortgage. It had declared Hunt in default, had foreclosed on the mortgage, and had sold her property. Hunt sought a judgment declaring the foreclosure sale invalid, asserting the defense of failure (or partial failure) of consideration because Rice had given her as consideration for the note only $23,354.87 rather than $35,000 recited in the note. Nations Credit argued that Hunt could not assert the defense against it because it was a holder in due course. Was the defense valid against NationsCredit? [Hunt v. NationsCredit Financial Services Corp., 902 So.2d 75 (Ala. Civ. App.)]

Question 5

What are the three required conditions for a holder to be a holder in due course?

Question 6

When is duress a universal defense?

Question 7

Martha Jenkins signed a promissory note and other documents relating to an $88,000 loan from First Horizon Home Loans. She alleged she had not intended to take out a loan but had been defrauded into signing the papers by her cousins, Courtney and Gail Brown, and the closing attorney, Brian Pierce. A loan proceeds check for $69,000, payable to Jenkins and drawn on Pierce's account at Wachovia Bank, National Association (Wachovia), was never received by Jenkins. Apparently Courtney Brown forged Jenkins' signature and deposited the funds into two accounts at Wachovia. Jenkins sued Wachovia. Should she recover? [ Jenkins v. Wachovia Bank, Nat. Ass'n, 711 S.E.2d 80 (Ga. Ct. App.)]

Question 8

GreenPoint Credit, LLC had a security interest in a mobile home owned by Rosetta Lunsford. The home was destroyed by fire, and Lunsford's insurer, Kentucky Farm Bureau Mutual Insurance Co., issued a check payable to Lunsford and GreenPoint. Lunsford indorsed the check and presented it to Tri-County National Bank for payment. Tri-County negotiated the check without GreenPoint's indorsement. GreenPoint sued Tri-County. Was Tri- County liable to GreenPoint? [Tri-County Nat. Bank v. GreenPoint Credit, LLC, 190 S.W.3d 360 (Ky. Ct. App.)]

Question 9

DDH Construction Inc. (DDH) hired Whooping Creek Construction, LLC (WCC) to work on a construction project. The general contractor had hired Gavin Garrett, LLC (Garrett), who had hired DDH. WCC submitted a payment request for its work. The general contractor issued payment to Garrett, who transferred payment to DDH. WCC received a check for $60,000, drawn on DDH's account at Bartow County Bank (Bank). Wednesday, WCC deposited the check in its account at McIntosh Bank. Friday, the Bank ordered a hold on DDH's account for the amount of the check, to prevent payment, and returned the check in its normal way to the Federal Reserve Bank (Fed) by means of a software program that sent an electronic file with an image of the check stamped "uncollected funds hold." The check was marked received by the Fed on Monday. WCC's account was reduced by the amount of the check, so it sued the Bank. It alleged that the Bank's dishonor was not timely, because the check had to be returned to the Fed by midnight Friday, but the notation on the check showed that it was not received by the Fed until Monday. Was the dishonor timely?

Question 10

Houston Gold Exchange (Houston) purchased a purported Rolex watch from Shelly McKee, paying with a postdated check drawn on its bank. McKee endorsed the check to RR Maloan Investments, Inc. (Maloan), which cashed it prior to the issue date. The next day, Houston issued a stop-payment order on the check when it discovered information indicating that the watch was counterfeit. Maloan presented the check to Houston's bank, which refused to honor it based upon the stop-payment order. Maloan sued Houston. Was Maloan entitled to collect on the check due to its status as a holder in due course?

Question 11

May a person who takes a fraudulently altered instrument for value in good faith and with no notice of the alteration enforce the instrument? Explain.

Question 12

You have learned about the benefits the law gives to a holder in due course in order to promote business transactions. Such a holder is given immunity against many potential defenses. Consider the ethical implications of this. Is it ethical that the obligee on a negotiable instrument is unable to raise otherwise valid defenses simply because the holder meets the requirements of being a holder in due course?

Question 13

What is the shelter rule?

Question 14

Upon what does imposition of liability on parties to negotiable instruments under the UCC depend?

Question 15

Liccardi Ford Inc. (Liccardi) issued a check to an employee, Charles Stallone, but did not deliver the check to Stallone because he was suspected of embezzlement. The check disappeared from Liccardi's offices, and when that was discovered, Liccardi ordered payment stopped on it. JCNB Check Cashing Inc. (JCNB) cashed the check for Stallone before its issue date and deposited it in its own bank account. The issuing bank refused to honor the check. Two years later, Robert Triffin acquired the dishonored check from JCNB and sued Liccardi and Stallone for its amount. While Triffin could not have acquired the check as a holder in due course, since he knew of its dishonor, if JCNB was a holder in due course, Triffin could enforce JCNB's rights. Was JCNB a holder in due course? [Triffin v. Liccardi Ford Inc., 10 A.3d 227 (N.J. Super. Ct. App. Div.)]

Question 16

Negotiable Instruments
Coastal Agricultural Supply, Inc. (Coastal), sold farm and ranch equipment. For 30 years it employed Jimmy Hollaway, including several years as its bookkeeper. Hollaway's duties included receiving checks from customers made payable to Coastal, indorsing them on Coastal's behalf "for deposit only," and depositing them into Coastal's account. Hollaway opened a checking account with JP Morgan Chase Bank, N.A. (Chase) in the name "Jimmy Hollaway DBA Coastal Agricultural Limestone Supply." Hollaway subsequently deposited 964 checks intended for Coastal into this new account. Coastal was only able to recover about 15 percent of the stolen money from Hollaway, so it also sued Chase. Was Chase liable to Coastal for accepting the checks indorsed by Hollaway? [ Coastal Agricultural Supply, Inc. v. JP Morgan Chase Bank, N.A., 759 F.3d 498 (5th Cir.)]

Question 17

Gregory Erkins executed a promissory note to Ameriquest Mortgage Co. (Ameriquest), secured by a mortgage on his house. Ameriquest assigned the note and mortgage to New York Trust Co., N.A. (New York). Elkins made the payments for two years and then defaulted. He sued New York to stop foreclosure proceedings, alleging that Ameriquest had engaged in tortuous behavior when the loan was taken out. If New York paid value for the note and had no knowledge of any allegedly tortuous behavior, should this defense be successful?

Question 18

A person purporting to be Ronald Wilder phoned American General Financial Services (American) requesting a loan. Wilder's credit was excellent, so American said it needed his prior two years' tax returns and asked what he wanted to do with the loan proceeds. The person said he wanted to renovate property he owned and faxed the tax returns and loan application. An $18,000 loan was approved. At American's office the person presented a driver's license with the person's photo but with Wilder's information. After signing the loan documents, the person left with a check for $18,000. He went to State Security Check Cashing Inc. (State) and presented the same driver's license. Considering the amount of the check "large," State's employee phoned State's compliance officer. He told her to verify the date of the check, name of the payee, address of the licensee, loan paperwork, and whether the check matched other checks State had cashed from American. She confirmed these and cashed the check with the officer's approval. The next business day, American learned of the forgery and stopped payment on the check. State, claiming it was a holder in due course, sued American for payment. American argued that State had not taken the check in good faith. Who should win?

Question 19

Explain the difference between a limited defense and a universal defense.

Question 20

How does the drawee of a draft become liable on an instrument, and what kind of liability does such a drawee have?

Question 21

Magloire and Marie Isaac signed a note secured by a mortgage to Option One. In a subsequent lawsuit to foreclose on the mortgage, Deutsche Bank National Trust Co. (Deutsche) produced the original mortgage, note and an allonge. The allonge was signed by an assistant secretary of Option One, but it did not state a payee. The Isaacs claimed that Deutsche needed to prove that it had standing to assert its right to foreclose on the mortgage. What status did Deutsche have if any? [Isaac v. Deutsche Bank Nat. Trust Co., 74 So.3d 495 (Fla. Dist. Ct. App.)]

Question 22

Negotiable Instruments
InterAmerican Car Rental, Inc. (InterAmerican), purchased its fleet of rental vehicles from Maroone Chevrolet, L.L.C. (Maroone), using financing from several local banks. InterAmerican would place an order for cars with Maroone, who would order the necessary vehicles from the manufacturer. The manufacturer would ship vehicles directly to InterAmerican and invoice Maroone. Maroone then invoiced InterAmerican. InterAmerican would then submit a draw request to its financing bank, which would issue a check for the purchase money loan. The checks were delivered to InterAmerican, but payable jointly to InterAmerican and Maroone. However, InterAmerican did not deliver checks to Maroone, but simply typed Maroone's name on the back and deposited the checks in InterAmerican's own account. InterAmerican then paid Maroone over time. Maroone was unaware that the financing checks were payable jointly to InterAmerican and Maroone. When InterAmerican went out of business, Maroone sued the depository and financing banks for accepting checks not properly indorsed by Maroone. Should Maroone recover from the banks? [ Regions Bank v. Maroone Chevrolet, L.L.C., 118 So.3d 251 (Fla. App.)]

Question 23

NorVergence Inc. resold telecommunications services. Customers had to lease a matrix box (the box), which NorVergence said enabled it to supply low-cost services. IFC Credit Corporation bought leases from NorVergence. When IFC was to receive payments from the first leases it bought, it got complaints from NorVergence customers about not getting services or savings. NorVergence and IFC amended their agreement, allowing IFC to withhold 25 percent of payment for leases pending the lessees' performance. Specialty Optical Systems agreed to switch to NorVergence if its contract with another company could be cancelled. NorVergence said that Specialty had to sign an Equipment Rental Agreement (the lease) to facilitate the application process, but NorVergence would not sign the lease, and Specialty would not be obligated unless its current contract were cancelled. Specialty signed the lease requiring sixty monthly payments of $543.67 for box rental, believing the payments included the box and telephone and Internet service. The lease said any claims or defenses that Specialty had against NorVergence could not be asserted against a purchaser of the lease and, as long as the box were delivered in outwardly good condition, Specialty had to pay rent even if it never received telephone services. Specialty accepted the box. NorVergence and IFC amended their agreement again to allow IFC to buy leases at a discounted rate and excuse it from paying more unless NorVergence were to provide acceptable service. NorVergence signed the Specialty lease. IFC confirmed that Specialty had received the box and would begin making payments in sixty days, so it took assignment of that lease. Specialty never got telephone services, nor was its prior contract cancelled. NorVergence went into bankruptcy. Specialty returned the box to IFC. When IFC demanded lease payments, Specialty sued. State law afforded IFC protection similar to that of a holder in due course if the same conditions were met. Did it meet holder in due course conditions?

Question 24

Nelson and Martha Soto executed a promissory note and mortgage in favor of Parkway Bank and Trust Co. (Parkway) for the purchase of their apartment. The Sotos procured insurance for their home from State Farm Fire and Casualty Co. (State Farm). Their apartment was subsequently damaged by a fire. Brickman Companies LLC (Brickman) was hired to make repairs to the home, and the Sotos authorized State Farm to name Brickman as an additional payee in the settlement. State Farm issued checks payable to "NELSON SOTO MARTHA I. SOTO PARKWA Y BANK TRUST COMPANY ITS SUCCESSORS AND/OR ASSIGNS BRICKMAN CONSTRUCTION INC." and delivered the checks to Brickman. Brickman forged Parkway's indorsement and cashed the checks at JP Morgan Chase Bank. Two months later Parkway discovered the forgery and demanded replacement checks from State Farm. Was Parkway entitled to receive new checks from State Farm?

Question 25

What should the party making payment of a negotiable instrument demand to ensure that the instrument is not further negotiated to a holder in due course who could require payment?

Question 26

What conditions must be met for a party to be held secondarily liable?

Question 27

Negotiable Instruments
Regent Title Insurance Agency, LLC (Regent), served as settlement agent for real estate closings, cutting checks to distribute funds to the appropriate parties. On several occasions, Charae Pearson brought Regent checks to New Randolph Halsted Currency Exchange, Inc. (Randolph), and Randolph cashed them. Pearson then brought a check to Randolph made payable to "CHAREA PAERSON" which was for ten times more than any other check Randolph had cashed for Pearson, and required manager approval. Randolph cashed the check after checking both Pearson's state identification and check cashing history with Randolph, and calling Regent to confirm the transaction. After Pearson was arrested for check fraud, Regent told its bank to stop payment. Randolph sued. Was Randolph a holder in due course entitled to payment? [ New Randolph Halsted Currency Exchange, Inc. v. Regent Title Insurance Agency, LLC, 939 N.E.2d 1024 (Ill. App.)]

Question 28

Negotiable Instruments
Vincent Schettler executed a promissory note to Silver State Bank (Silver) as part of a revolving line of credit for Schettler's business, which provided for a period of interest only payments until the maturity date. The maturity date was renegotiated several times during the term of the business relationship. Silver ultimately went into receivership, and the Federal Deposit Insurance Corporation (FDIC) was appointed receiver. Schettler then did not pay the outstanding balance of the note on the maturity date. RalRon Capital Corporation (RalRon) purchased the note and demanded payment from Schettler. Was RalRon a holder in due course entitled to payment from Schettler? [ Schettler v. RalRon Capital Corporation, 275 P.3d 933 (Nev.)]

Question 29

Ohio Savings Bank (OSB) bought first mortgage loans from a branch of Advantage Investors Mortgage (AIM). OSB wired funds to an escrow account of AIM's closing agent, First National Title (FNT). Borrowers signed notes and mortgages to AIM as lender; AIM assigned them to OSB; and FNT was to disburse the loan proceeds appropriately from its escrow account, primarily to pay off existing first mortgages. James Niblock, who secretly owned FNT and controlled the AIM branch, embezzled $1 million from the FNT escrow account after borrowers' notes and mortgages were executed and assigned to OSB. The prior loans were unpaid, so the borrowers refused to pay the mortgage loans assigned to OSB. It sued Progressive Casualty Insurance Co., which had issued a bond covering losses "resulting directly from the Insured's having, in good faith... accepted or received or acted upon the faith of any real property mortgages... which prove to have been defective by reason of the signature thereon of any person having been obtained through trick, artifice, fraud or false pretenses...." Did the bond cover OSB's losses?

Question 30

Cactus Roofing, LLC issued a check to "Espino Roofing and/or Tomas Hernandez" for $4,768.47 for roofing work that Hernandez had performed for Cactus. That morning, Hernandez cashed the check at Hurst Enterprises, LLC, d/b/a Mr. Payroll Check Cashing. Hernandez had previously cashed three other checks from Cactus at Mr. Payroll. All three checks had cleared without problems. Mr. Payroll paid Hernandez the amount of the check minus a 1 percent check-cashing fee and deposited the check in its account at Bank of the Panhandle. A day after issuing the check, Cactus discovered that Hernandez's work had not been adequately completed. After unsuccessfully trying to contact Hernandez, Cactus stopped payment on the check. Mr. Payroll received the check back from its bank with notice that a stop payment had been issued. The manager of Mr. Payroll discovered that the stop payment had been issued three days after Hernandez had cashed the check. Mr. Payroll sued Cactus, alleging it was a holder in due course. Was it?

Question 31

May a thief convey good title to an instrument?

Question 32

What are the two exceptions to the rule that an unauthorized signature does not bind the person whose name is used?

Question 33

Two related businesses, Grassi Design Group Inc. (Grassi) and Beauchemin Grassi Interiors Inc. (Beauchemin), had checking accounts with Bank of America, N.A. and RBS Citizens, N.A. An employee common to both corporations forged and cashed numerous checks that the banks honored. Both banks had used fraud-detection computer software to identify possibly fraudulent checks, but the companies had failed to examine the monthly statements sent by the banks, so no fraudulent checks were reported within thirty days of appearing on a statement. Grassi and Beauchemin sued the banks. Were the banks liable? [Grassi Design Group Inc. v. Bank of America, N.A., 908 N.E.2d 393 (Mass. App. Ct.)]