Does a payor have any defenses to paying an instrument that is presented for payment by a holder in due course?

Real Defenses - Real defenses apply against any holder, including a holder in due course. Common real defenses are as follows:

Forgery - The forger of an instrument or a payees signature on an instrument is not a holder. As such, the non-holder cannot negotiate the instrument to a HDC.

Example: Agnes steals a check from Ben and forges his signature. She negotiates the check to Clark, who would otherwise qualify as an HDC if Clark were a holder. Agnes does not have to pay this instrument.

Bankruptcy - Bankruptcy of the payor is a defense against holders and HDCs. The obligation to pay a negotiable instrument is considered a debt. This debt may be included in the debtors bankruptcy estate. The holder or HDC must submit a claim for payment of the instrument to receive anything from the estate. Discharge of the debt discharges the obligation of the debtor to make payment.

Example: Agnes issues a promissory note. The note is transferred several times to multiple holders in due course. Agnes files for bankruptcy protection and her obligation to pay the instrument is include in the bankruptcy estate. An HDC would have to make an unsecured claim against the bankruptcy estate of Agnes or seek enforcement against a prior transferor or indorser.

Alteration - Alteration is a limited defense against a holder and HDC. It may be a complete defense against a holder, but an HDC can enforce the instrument up to the original or correct amount of the instrument.

Note: If the instrument was blank and then filled out, the HDC can enforce it for the whole amount. This rule places the risk on the issuer who makes an incomplete instrument.

Duress, Mental Incapacity, Illegality - Any of these typical contract defenses can also work against an HDC.

Example: Situations amounting to a defense against an HDC include where the issuer is subject to duress, has lost mental capacity due to disease, or the subject-matter of the contract is illegal due to a trade tariff. The underlying obligation must be void. If the underlying obligation remains voidable (rather than void), it is no defense.

Fraud in Fact - Fraud in fact means that the subject matter of the contract involves an intentional deceit. This is different than fraud in the inducement.

Example: A seller intentionally makes false representations about the nature or quality of a good. This is fraud constituting the subject matter of the contract.

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?