Holder in Due Course - Discharge of Underlying Obligation
Does Dischrage of an Underlying Contract Affect an HDC's Rights?
Written by Jason Gordon
Updated at April 6th, 2023
- Marketing, Advertising, Sales & PR
- Accounting, Taxation, and Reporting
- Professionalism & Career Development
-
Law, Transactions, & Risk Management
Government, Legal System, Administrative Law, & Constitutional Law Legal Disputes - Civil & Criminal Law Agency Law HR, Employment, Labor, & Discrimination Business Entities, Corporate Governance & Ownership Business Transactions, Antitrust, & Securities Law Real Estate, Personal, & Intellectual Property Commercial Law: Contract, Payments, Security Interests, & Bankruptcy Consumer Protection Insurance & Risk Management Immigration Law Environmental Protection Law Inheritance, Estates, and Trusts
- Business Management & Operations
- Economics, Finance, & Analytics
- Courses
How does discharge of the underlying obligation affect a holder in due course?
Negotiable instruments are generally created as consideration in a contract between two parties. That is, there is a contractual relationship (known as the underlying agreement) between the original creator (issuer) and the recipient (issuee and holder) of the negotiable instrument. If the parties to the underlying agreement fail to carry out their obligations, it may affect the ability of a holder to later enforce the instrument against the payor. This is because the holder (as transferee) receives the same rights and the transferor. She also is subject to any defenses the payor may have against the issuee with regard to the underlying contract. A HDC, however, is not subject to the payors personal defenses to payment of the instrument.
Pursuant to the above-stated rules, discharge of either party from her obligations under the contract giving rise to the negotiable instrument may serve as a defense to the payor having to pay the instrument. Discharge of the underlying obligation does not, however, affect the payment rights of a HDC who takes the instrument without notice of the discharge. While notice of discharge of the underlying obligation does not constitute notice of a valid defense, it may affect the HDCs right to seek payment against the payor if the HDC received the instrument with knowledge of the underlying discharge.
Next Article: Shelter Principle and Negotiable Instruments Back to: COMMERCIAL PAPER
Discussion Question
Why do you think discharge of the underlying obligation is not a defense to payment of a holder in due course of the instrument? Why does this rule change when the HDC has notice of the discharge prior to receiving the instrument? Should there be a distinction? Why or why not?
Practice Question
Venus and William enter into a contract. Venus issues a promissory note to William in consideration for Williams obligation to perform services. William sells the promissory to Martina, who meets all of the requirements for a holder in due course. During this time, William is discharged from the contract due to a serious injury he suffered. Does this affect Martinas right to seek payment from Venus? If Martina sells the paper to Billy Jean and notifies her of the underlying discharge, would this discharge affect her right to seek payment?
Related Topics
- Commercial Paper (Intro)
- What is Commercial Paper?
- Negotiable Instrument
- What are the common types of commercial paper?
- Promissory Note
- Cashier's Check
- Convenience Check
- Certified Check
- Substitute Check
- Bill of Exchange
- Bank Draft Definition
- Sight Draft Definition
- Bankers Acceptance
- Who is a Holder of a negotiable instrument?
- Commercial Paper Funding Program
- What is Negotiability and why is it important?
- What is required for commercial paper to be negotiable?
- Sum Certain (Contracts)
- Inflation Adjustment Clause
- When does commercial paper contain an Unconditional promise to pay?
- Backup Line of Credit
- What is Payable on Demand or Payable on Time?
- What is Order Paper and Bearer Paper?
- Bearer Form
- How is a payee identified on the negotiable instrument?
- What rules does the court apply in determining negotiability?
- How is commercial paper negotiated to a holder?
- What is Transfer of a negotiable instrument?
- What is Indorsement of a negotiable instrument?
- What are the various types of indorsement?
- Bank Endorsement
- Blank Endorsement
- Accommodation Endorsement
- How does a holder receive payment on a negotiable instrument?
- Who is potentially liable on (or obligated to pay) a negotiable instrument?
- When is an individual liable for a representative signing a negotiable instrument?
- What rules apply if a holder loses a negotiable instrument?
- When is payment of a negotiable instrument overdue?
- What effect does a negotiable instrument have on the underlying obligation?
- What is a holder in due course?
- What are the requirements for a holder to become a holder in due course?
- Receive an instrument for value?
- Receive an instrument in good faith?
- Receive an instrument without notice of a valid defense?
- How does discharge of the Underlying Obligation affect a holder in due course?
- What is the Shelter Rule?
- Can you limit a transferee from becoming a holder in due course?
- Personal Defenses?
- Real Defenses?
- What is a Claim in Recoupment?
- What are the rights of a holder in due course if the instrument involves a consumer transaction?
- What happens if a negotiable instrument is Forged?
- What happens if a negotiable instrument is Stolen?
- Guaranty or Guarantee
- Letter of Guarantee
- Personal Guarantee
-
What is the role of a Guarantor or Surety of a negotiable instrument?
-
Surety
- Cosign
- Accommodation Paper Definition
- Secondary Liability
- Avalize Definition
- What is an Accord & Satisfaction?
- What is primary and secondary liability on an instrument?
- What is Drawer or Maker Liability for a negotiable instrument?
- What is Transferor Warranty of a negotiable instrument?
- What is Indorser Warranty of a negotiable instrument?
- What is Presentment Warranty of a negotiable instrument?
- What is a warrantors liability for a dishonored note or draft?
- What is the time limitation for warranty of a negotiable instrument?
- When are the warranties of a negotiable instrument discharged?