Promissory Notes and Drafts (part A)
by
Charles Lamson
Notes and drafts are negotiable instruments widely used in commercial and personal transactions. Each has unique features.
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Notes
Any written promise to pay money at a specified time is a promissory note, but it may not be a negotiable instrument. To be negotiable, a note must contain the essential elements discussed in this post.
The two parties to a promissory note are the maker, the one who signs the note and promises to pay, and the payee, the one to whom the promise is made.
Accountability of the Maker
The maker of a promissory note (1) expressly agrees to pay the note according to its terms, (2) admits the existence of the payee, and (3) warrants that the payee is competent to transfer the instrument by endorsement.
Types of Notes
Many types of notes known by special names include:
Bonds. A bond is a written contract obligation, usually under seal, generally issued by a corporation, a municipality, or a government, that contains the promise to pay a fixed amount of money at a set or determinable future time. In addition to the promise to pay, it will generally contain certain other conditions and stipulations. A bond issued by a corporation is generally secured by a deed of trust on the property of the corporation. A bond may be a coupon bond or a registered bond.
A coupon bond is so called because the interest payments that will become due on the bond are represented by detachable individual coupons to be presented for payment when do. Coupon bonds and the individual coupons are usually payable to the bearer, as a result, they can be negotiated by delivery. There is no registration of the original purchaser or any subsequent holder of the bond.
A registered bond is a bond payable to a named person. The bond is recorded under that name by the organization issuing it to guard against its loss or destruction. When a registered bond is sold, a record of the transfer to the new bondholder must be made under the name of the new bond-holder.
Collateral Notes. A collateral note is a note secured by personal property. The collateral usually consists of stocks, bonds, or other written evidences of debt, or a security interest in tangible personal property given by the debtor to the pay creditor.
The transaction may vary in terms of whether the creditor keeps possession of the property as long as the debt is unpaid or whether the debtor may keep possession of the property until default. When the creditor receives possession of collateral, reasonable care of it must be taken, and the creditor is liable to the debtor for any loss resulting from lack of reasonable care. If the Creditor receives any interest, dividend, or other income from the property while it is held as collateral, such amount must be credited against the debt or returned to the debtor.
Regardless of the form of the transaction, the property is freed from the claim of the creditor if the debt is paid. If not paid, the creditor may sell the property in the manner prescribed by law. The creditor must return to the debtor any excess of the sale proceeds above the debt, interest, and costs. If the sale of the collateral does not provide sufficient proceeds to pay the debt, the debtor is liable for any deficiency.
Real Estate Mortgage Notes. A real estate mortgage note is given to evidence a debt that the maker-debtor secures by giving to the payee a mortgage on real estate. As in the case of a real estate mortgage, generally the mortgage debtor retains possession of the property. If the real estate is not freed by payment of the debt, the holder may proceed on the mortgage or the mortgage note to enforce the maker-mortgagor's liability.
Debentures. An unsecured bond or note issued by a business firm is called a debenture. A debenture, like any other bond, is nothing more or less than a promissory note, usually under seal. It may be embellished with gold colored edges, but this does not in any way indicate its value. A debenture is usually negotiable in form.
Certificates of Deposit. The Uniform Commercial Code (UCC) defines a certificate of deposit (CD) as an acknowledgement by a bank that a sum of money has been received by the bank and the promise by the bank to repay the sum of money. The bank repays the sum to the person designated on the CD. Normally the money is repaid with interest. The UCC classifies a certificate of deposit as a note even though it does not contain the word promise. A CD is not a draft because it does not contain an order to pay.
*SOURCE: LAW FOR BUSINESS 15TH ED., 2005, JANET E. ASHCROFT, J.D., PGS. 258-261*
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