A negotiable instrument is defined as a signed document that can be transferred unconditionally in trading as a substitute for money. It is a written contract that is passed from the original holder to the new one and is a promise to pay to the assignee.
Negotiable instruments are transferrable, and that means that the holder has the full legal title and can use the funds as per his requirements.
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Meaning of negotiable instruments
A negotiable instrument is always in a written form and is generally considered a mode of paying a debt from one person to another. In other words, it is a type of promise to pay the bearer the stipulated money.
The negotiable instrument is presumed to be drawn, accepted, made, negotiated, endorsed and transferred voluntarily to the bearer. These are generally used in monetary dealings or commercial transactions.
The negotiable instruments are considered reliable with an unconditional right to recover the stipulated money either on a date or on-demand and hence people find it easy and comfortable using them in transactions.
Types of negotiable instruments
A negotiable instrument is a commercial document with different kinds and unique functions. It has a legal life of its own that satisfies specific conditions and can be transferred by endorsement or delivery. There are two types of negotiable instruments
- Instruments Negotiable by Statute for instance cheques, bills of exchange and promissory notes
- Instruments Negotiable by Customs or Usage, for example, banknotes or currencies, share warrants, bearer debentures, exchequer bills, dividend warrants, and circular notes.
Some of the main characteristics of few negotiable instruments are defined below
1. Promissory Notes
There are two main parties involved in a promissory note, and these are the Maker and the Payee. The promissory note is a promise written on a paper with legal standing where the maker promises to pay a specific sum to the payee on the pre-decided date.
The note mentions the amount that is owed along with the sate of payment and the interest rate that has been agreed upon. This unconditional undertaking must have the following features
- The maker must duly sign the promissory note
- It must be in a written form and should bear the stamp
- The money owed or to be paid must be definite
- It is an unconditional promise that has to be paid
- The payee of the promissory note must be specific, and his name should be mentioned
- The promissory note is payable at a particular date or on-demand
2. Bills of Exchange
It is a written document, duly signed by the maker that instructs a person or party to pay a pre-determined amount to another party. The bill of exchange is legally binding, which sometimes mentions a particular date or might state that it is due on demand.
This negotiable instrument is used in transactions that are related to both services and goods and is generally used to fulfill a contract for payment purposes. A seller can endorse a bill of exchange and pass it to someone else or a third party.
The bill of exchange is known as a bank draft when it is issued by a financial institution and a trade draft when the issuer is an individual. It is also used as a promissory note in international trade. Generally, the bank is the third party in such transactions and acts as the guarantee for the payment to minimize the risk factor. The bill of exchange must have these essential features-
- The payable amount must be specific
- The bill payable is either on a particular date or on-demand
- The mode of payment must be monetary
- The is owed to the payee or the bearer
3. Cheques
It is a negotiable instrument in writing that is addressed to the bank to pay the specified amount to the bearer of the cheque. It is a complete order where the drawer instructs the drawee or the bank to pay the sum to the payee from the amount that has been already deposited with the drawee or the bank.
The various types of the cheque are crossed cheque, open cheque, bearer cheque, marked cheque, order cheque, post-dated cheque, etc. Cheques at one time were the most preferred medium of numerous types of bill payment, but with time they have lost some of its charms as people now prefer online banking instead of cheque payments. The cheque must have these essential features-
- The cheque is payable on demand
- It is an order to pay the specific written amount
- A cheque is a written negotiable instrument
- It is an express order to pay
- The drawer must sign the cheque
- It is an unconditional as well as a definite order
4. Currencies
Coins and banknotes both come under the term currencies and are considered negotiable instruments. Both are used as a medium of exchange in daily life to settle trade transactions.
This is a safe medium of exchange where the government promises to pay the bearer the money mentioned on the currency note or the coin. The best thing about currencies is that it is freely transferrable from one to another.
5. Bearer Bonds
These are issued by either the corporate or government and are considered unregistered bonds. The legal owner of the bearer bond is the one who has its physical possession. The main disadvantage is that theft or destruction of this negotiable instrument is a complete loss.
Why negotiable instruments are still in use
The main reason why the negotiable instruments are used is described below
- The negotiable instrument allows people to carry out transactions of commercial nature without immediate cash in hand. The deal is on credit with stipulated terms and is payable either on-demand or on a specific date in the future. This gives certain leeway to the person or company offering negotiable instruments as part of the credit transaction.
- Negotiable instruments are still in use because it is easy to deliver from one place to another
- The negotiable instrument is considered unconditional promise to pay and is a proof of indebtedness. This is a solid proof of the existence of a debt, and the payee does not have to prove it anywhere in any dire circumstances.
- Negotiable instruments make it possible to flourish in the business sector.
- As negotiable instruments are of transferrable nature, the bearer can quickly transfer it to another party for debt settlement.
- Negotiable instruments can also be used in trade in several countries.
- Negotiable instruments are so much in use because it is one of the easier ways to transfer money
