Negotiable Instruments and Cheques: Act, Sections and PYQs

A negotiable instrument is a written document that carries a right to money and can be passed from one person to another so completely that the new holder can sue on it in their own name. The law is the Negotiable Instruments Act, 1881, which came into force on 1 March 1882 and still governs cheques in India. Section 13 of the Act says a negotiable instrument means a promissory note, a bill of exchange or a cheque, payable either to order or to bearer. Custom adds a few more, such as hundis, government promissory notes, share warrants and railway receipts, but the three named in Section 13 are what the paper asks about.

The three instruments and their parties

A promissory note, defined in Section 4, is an unconditional written promise signed by the maker to pay a certain sum to or to the order of a certain person. It has two parties, the maker and the payee, and it must be stamped. A bill of exchange, defined in Section 5, is an unconditional written order signed by the maker directing a person to pay a certain sum to or to the order of a certain person. It has three parties, the drawer, the drawee who is to pay, and the payee, and it needs acceptance.

A cheque, defined in Section 6, is a bill of exchange drawn on a specified banker and not expressed to be payable otherwise than on demand. The definition also covers the electronic image of a truncated cheque and a cheque in electronic form. A cheque has three parties: the drawer, who is the account holder, the drawee, who is always the bank, and the payee. A cheque is always payable on demand, needs no acceptance and no stamp, and days of grace do not apply to it.

Section numbers worth memorising

Crossing, endorsement and negotiation

Crossing is an instruction to the paying bank. Two parallel transverse lines on the face of a cheque make it a general crossing under Section 123, and such a cheque can be paid only into a bank account, never over the counter. If the name of a particular bank is written between the lines it becomes a special crossing under Section 124, and only that bank can collect it. The words 'not negotiable' added to a crossing bring in Section 130, under which the instrument stays transferable but the transferee gets no better title than the transferor had, so a defective title passes on. An account payee crossing, the commonest of all in practice, is not defined in the Act at all; it grew out of banking usage and restricts collection to the named payee's account.

Negotiation is the act of transferring the instrument. A bearer instrument is negotiated by delivery alone. An order instrument needs endorsement, which means the holder signs on the back, and then delivery. An endorsement in blank carries only the signature and makes the instrument payable to bearer; an endorsement in full names the person to whom the money is to be paid.

Cheques in day to day banking

• A cheque is valid for three months from the date written on it, under the Reserve Bank's direction that reduced the earlier six months from 1 April 2012. A cheque presented later is a stale cheque.
• A post-dated cheque bears a later date and cannot be paid before it; an ante-dated cheque bears an earlier date and is good until three months from that date.
• A mutilated cheque is torn, and a bank may pay it only if the drawer confirms the mutilation.
• Under the Cheque Truncation System the physical cheque stops at the presenting bank and its electronic image travels for payment, which is why the CTS-2010 standard cheque leaf carries a watermark and void pantograph.
• The MICR code printed on a cheque leaf has nine digits: three for the city, three for the bank and three for the branch.

Dishonour of a cheque

Section 138 makes it an offence to issue a cheque that is returned unpaid because the account has insufficient funds or because the amount exceeds an arrangement with the bank. The punishment can extend to imprisonment for two years, or a fine up to twice the amount of the cheque, or both. The payee must give the drawer a written notice within thirty days of receiving information of the dishonour, the drawer then has fifteen days to pay, and only if the money is not paid within those fifteen days does the cause of action arise, on which a complaint must be filed within one month. Section 143A allows a trial court to order interim compensation of up to twenty per cent of the cheque amount, and Section 148 allows an appellate court to require a deposit of at least twenty per cent. Section 147 makes offences under the Act compoundable, so the parties may settle.