Short notes on discharge in relation to negotiable instruments

The term ‘discharge’ in relation to negotiable instruments is used in two senses: (1) discharge of an instrument, and (2) discharge of one or more parties.

1. Discharge of an instrument:

An instrument is discharged when all the rights under it are extinguished so that the instrument ceases to be negotiable. For example, when the party primarily liable on the instrument, i.e. the maker or the acceptor is discharged, the instrument is also discharged. After an instrument is discharged all the parties are also discharged from their liabilities even holder in due course cannot claim the amount of the instrument from any party to the instrument.

2. Discharge of one or more parties:

When one or more parties are discharged, the instrument continues to be liable and the undercharged parties remain liable on the instrument. For example when the name of the indorser is cancelled, the drawer and acceptor continue to be liable.

It may be pointed out that the term ‘discharge of instrument’ is wider than the term ‘discharge of party(ies).’ When an instrument is discharged, all the parties to the instrument are also discharged automatically. However, discharge of one or more parties does not necessarily discharge the instrument.

Discharge of an Instrument :

An instrument is discharged in the following ways:

1. By payment in due course [Sec. 10 and 82(c)]:

Perhaps this is the most natural and usual mode of discharge of an instrument. All parties to an instrument are discharged by payment made in due course.

Essential Rules Regarding Payment :

1. The payment should be made by the party primarily liable, i.e. the maker of a note or the acceptor of a bill and the drawee of a cheque. If the payment is made by any indorser, the instrument will not be discharged; only that indorser and subsequent parties will be discharged.

2. The payment of the instrument should be made at or after maturity. If the payment is made before maturity, it will not discharge the instrument unless the instrument is cancelled. If it is not cancelled, it is likely to reach again in the hands of a holder in due course who can enforce payment [Burbridge v. Manners].

3. Payment should be made to the holder, otherwise it will not discharge the party liable to pay (Sec. 78). In case the instrument is payable to bearer, the payment may be made to any person in possession of the instrument unless there is a suspicion to show that he is not entitled to payment.

In that case, payment even to a thief or finder will discharge the instrument. In case the instrument is payable to order, the payment should be made to the payee named. This condition is very strict. Even if the payment is made to another person of the same name, it will not discharge the party liable to pay it.

Example:

A bill was drawn payable to Ram Lai. Another Ram Lai picked up the bill and got the payment. The acceptor is not discharged. The true Ram Lai can still recover the amount from the acceptor.

However, in case of a cheque, special protection has been granted by Sec. 85(1):

“Where a cheque payable to order purports to be indorsed by or on behalf of the payee, the drawee is discharged by payment in due course”.

Thus, in the above example, if it were a cheque and not a bill, then the true Ram Lai would have no remedy against the drawee, i.e. the bank.

2. Discharge by cancellation [Sec. 82(a)]:

Where the holder of an instrument with the intention of discharging the instrument, cancels the name of the party primarily liable (i.e. the maker of a note or the acceptor of a bill), the instrument is discharged. An instrument is also discharged if the holder cancels the instrument itself with an intention of discharging all the parties to the instrument. He may cancel the instrument by scoring it out or tearing it off.

Example:

A drew a bill for Rs. 500 on B. A indorsed the bill to C, C to D and D to E.

E, the holder of the bill, cancels the name of the drawer A. Now B, C and D are also discharged as their liability is dependent upon the liability of the drawer A.

It should be noted that cancellation should be intentional.

An accidental cancellation will not discharge the instrument. To discharge the instrument, the name of the party primarily liable should be cancelled. If the name of a party who is secondarily liable is cancelled, the instrument will not be discharged; only the subsequent parties will be discharged in that case. The instrument should be destroyed physically so that it may not be used again.

Example:

A accepted a bill and gave it to B for getting r- discounted. B failed to discount the bill and returned the bill to A. Then, A tore the bill in half with the intention of canceling it and threw the pieces on the road. B was very clever, he picked up the pieces and pasted them together so nicely that it appeared to have been folded for safe custody rather than cancelled. B passed it so that it reached a holder in due course. Held, A was liable on the bill. A did not clearly tear off the bill so as to show his intention unmistakably. [Ingham v. Primerose].

3. By acceptor of a bill becoming its holder [Sec. 90]:

Where the acceptor of a bill of exchange (which has been negotiated) becomes its holder at or after maturity, the bill is discharged. This is based on the principle of ‘Negotiation Back’ discussed earlier. The party primarily liable becomes the holder of the instrument, it will not be allowed to enforce its claim against other parties because it will lead to circuity of action. Hence the instrument is discharged.

4. By release [Sec. 82 (b)]:

Where the holder of the instrument releases the party primarily liable on the instrument or otherwise discharges him, the instrument is also discharged. The reason is very simple. Discharge of principal debtor discharges the surety. In a negotiable instrument, an indorser and subsequent parties are in the position of sureties.

Discharge of One or more Parties to an Instrument :

1. Discharge by cancellation [Sec. 82(a)]:

This point has already been discussed as point No. 2 on the last page while discussing discharge of an instrument.

2. Discharge by release [Sec. 82(b)]:

Where the holder of the instrument releases any indorser or otherwise discharges him, then that indorser and subsequent parties are discharged from the liabilities.

3. Discharge by payment [Sec. 82(c)]:

Where the party primarily liable on the instrument makes the payment, the instruments as well as all the parties to the instrument are discharged. For essential rules regarding payment, please refer to discharge of instrument discussed earlier.

4. Discharge by allowing more than 48 hours to the drawee to accept the bill [Sec. 83]:

If the holder allows more than 48 hours to the drawee to consider whether or not he will accept the bill, all previous parties not consenting to such allowance, are discharged from their liability to such holder.

5. Discharge by delay in presenting cheques [Sec. 48]:

A cheque must be presented for payment within a reasonable time. When a cheque is not presented for payment within a reasonable time of its issue and the drawer suffers actual damage through the delay, he is to that extent discharged from his liability. However, the holder shall become the creditor of the bank to that extent.

Example:

A issued a cheque for Rs. 500 to B. When the cheque should have been presented, there was enough balance in his account. But the cheque is delayed beyond reasonable time and the bank fails in the meantime. A is discharged from his liability. However, B can claim Rs. 500 from the liquidator of the bank, i.e. whatever dividend is paid to the other creditors.

If in the above example, before A could present the cheque in the ordinary course, the bank fails. A will not be discharged because A has not suffered any loss due to the presentment of the cheque which was in time.

6. Discharge by qualified acceptance:

As a rule, acceptance must be absolute or unqualified. A holder is entitled to object to a qualified acceptance. However, if he does not object to such qualified acceptance, all other parties who do not consent to such qualified acceptance are discharged to such holder and those claiming under him, unless, on notice given by the holder, they agree to such acceptance.

7. Discharge by material alteration [Sec. 87]:

Any material alteration of a negotiable instrument renders the same void as against anyone who is party thereto at the time of making such alteration. However, if the party consents to such alteration or it was made to carry out the common intention of the parties, the alteration does not discharge the party concerned.

Alteration by Indorsee:

Any alteration made by the indorsee, discharges his indorser from all liability to him. However, it should be noted that an acceptor or indorser of a negotiable instrument is bound by his acceptance or indorsement if the alteration was made before he accepted or indorsed the instrument. The reason is simple. In such a case, he has in a way consented to such alteration.

An alteration is void only if it is made subsequent to acceptance or indorsement.

8. Discharge by payment of instrument on which alteration is not apparent:

When an instrument has been materially altered but does not look like that or where cheque has been crossed but does not appear to have been crossed, e.g. crossing clearly erased, the person paying or the banker is discharged from all liabilities thereon.

9. Discharge by debtor becoming its holder, i.e. when the acceptor of a bill again becomes its holder [Sec. 90]:

We have already made reference to negotiation back which discharges all the parties to the bill. A debtor (acceptor) who again becomes the holder of a bill, discharges all other parties on the same principle.

10. Discharge by operation of law:

Liability of party to a negotiable instrument is discharged by operation of law. It may be by:

(a) Insolvency. An insolvent is discharged from his liability.

(b) Merger. When merger takes place, the liability is discharged, i.e., merging of debt under the instrument into the judgement debt.

(c) Law of limitation. Further, the liability may be discharged by the debt becoming time- barred by the law of limitation.

Material Alteration:

An alteration which in any way alters the operational character of the instrument or rights and liabilities of the parties is called material alteration? It is immaterial whether the alteration is advantageous or disadvantageous. Alteration must be intentional. An accidental alteration is not bad. It need not be made by the holder. It is sufficient if it was made when the instrument was in the possession of the holder. The holder must take every care to protect it from such alteration, otherwise he will be liable for the consequence of the alteration.

Material Alterations:

The following alterations are regarded as material: 1. the date, 2. the sum payable, 3. the place of payment, 4. the time of payment, 5. the rate of interest, 6. the place where the instrument is drawn, 7. addition of a party’s name or place of payment.

Any of the above alterations made will discharge the parties liable on the instrument.

Alterations which are not material (Sec. 87):

The following alterations are not regarded as material alterations:

1. Alteration made before acceptance or indorsement. An acceptor and indorser are bound by previous alterations (Sec. 88).

2. Alteration made to carry out the common intention of the parties.

3. Alteration consented to or agreed by the other parties.

1. Filling an inchoate but stamped instrument (Sec. 20):

A holder has the authority to fill in the blanks in such an instrument. Even where the holder fills an amount larger than intended (but is covered by the stamp) the instrument is not void against a holder in due course.

2. Converting blank indorsement into full (Sec. 49):

A holder has the authority to convert an indorsement in blank into an indorsement in full.

3. Conditional or qualified acceptance (Sec. 86):

A holder may take a qualified acceptance.

4. Crossing of cheques (Sec. 125):

A holder and a banker are empowered to cross the cheques.

Effect of Material Alteration (Sec. 87):

When a material alteration has been made a negotiable instrument, as well as all the parties to the instrument are discharged. If the alteration is made by an indorsee, then his indorser is discharged from all liabilities to him.

It should be noted that even if a material alteration is agreed to by all the parties, it becomes a new instrument which requires a new stamp.