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CHAPTER 26
TRANSFERABILITY AND HOLDER IN DUE COURSE
ANSWERS TO QUESTIONS
AT THE ENDS OF THE CASES
CASE 26.1—CRITICAL THINKING
LEGAL ENVIRONMENT
Even though forged or unauthorized signatures on negotiable instruments are
uncommon, should U.S. Bank have had to prove that the indorsements on this note were
valid and authorized? Why or why not? No, U.S. Bank should not have had to prove that the
indorsements on the Bass note were valid and authorized. Under the UCC, an indorsement is
presumed to be authentic and authorized until evidence is introduced that it is forged or
unauthorized. In other words, unless Bass produced such evidence, U.S. Bank was not required
to prove that the indorsements were valid. And in this case, the facts do not indicate that Bass
offered any evidence to show the possibility of forgery, error, or a lack of authorization in the
indorsements.
ECONOMIC
How does the presumption that an indorsement is legitimate “without unambiguous
evidence to the contrary” protect the transferability of a negotiable instrument? The
presumption that an indorsement is legitimate “without unambiguous evidence to the contrary”
protects the transferability of a negotiable instrument by giving force to the information
presented on the face of the instrument. Thus, a signature is an indorsement unless
accompanying words, the terms of the instrument, the location of the signature, or some other
circumstance unambiguously indicates that the signature was made for a purpose other than
indorsement. Parties can buy, sell, or trade the instrument, trusting that the indorsements on it
are legitimate without having to validate every indorsement with every transfer. This encourages
and supports the market for such instruments.
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CASE 26.2—LEGAL REASONING QUESTIONS
1. What evidence did the plaintiff offer to establish standing to enforce the note?
Explain. At trial, the plaintiff—AS Peleus, LLC—produced the original note, which contained a
series of special indorsements assigning the note finally to the plaintiff. Russell Schaub, the
chief operating officer of Gregory Funding, LLC, the plaintiff’s mortgage servicing company,
testified that the plaintiff bought the note from its predecessor in the chain of indorsements six
months before the complaint was filed. Schaub also indicated that he was personally familiar
with the plaintiff’s books and records, which Gregory maintained in the ordinary course of
business.
In this case, Success, Inc. executed a note payable to Greenpoint Mortgage Funding,
Inc. The note was secured by mortgages on certain real property in Connecticut. When Success
defaulted on the payments, AS Peleus, LLC filed a suit in a Connecticut state court against
Success to foreclose on the property and recover on the note.
In response to the plaintiff’s case, the defendant offered no evidence. In these
circumstances, the plaintiff’s documentary and testimonial evidence was sufficient to support a
finding by the trial court that the plaintiff was the owner and holder of the note. And a state
intermediate appellate concluded that the record was sufficient to “substantiate the court’s
finding,” which “therefore is not clearly erroneous.”
2. What might have been the result if the assignments of the note had ended with the
3. If the series of indorsements on the note had ended with a blank indorsement, would
the lower court’s holding have been in error? No, if the series of indorsements on the note
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CASE 26.3—CRITICAL THINKING
WHAT IF THE FACTS WERE DIFFERENT?
Suppose that Demery had gone to work for a company not owned or managed by a
family member and had stolen funds from it to pay Georg. Would Georg then be the more
innocent party? Why or why not? That would make Freestyle’s case quite weak. Georg did
not report the theft to the authorities, so there was no record of what happened. Hence, he did
nothing to give another employer an opportunity to learn of criminal acts. Even putting that
aside, if Demery came up with a check from another company with which she had no personal
relationship that would be very suspicious. In contrast, it is believable that her parents may lend
her fund to help her out. Certainly, though this would not be true with strangers.
ETHICAL
Since Georg knew that Demery had previously embezzled funds from Freestyle when she
was an employee, shouldn’t he have been suspicious about the source of the funds that
Demery was using to repay Freestyle? Why did the court conclude that Freestyle acted in
good faith in accepting the check? Discuss. On the question of whether Freestyle took the
check in good faith, so as to qualify as a holder in due course, the court emphasized Demery’s
authority to issue checks for Metro. Georg had no reason to know that Demery did not have the
authority to write this specific check.
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ANSWERS TO QUESTIONS IN THE REVIEWING FEATURE
AT THE END OF THE CHAPTER
1A. Method of negotiation
An instrument, such as a check, is delivered with necessary indorsements when it is properly
issued payable to the order of the payee and is then indorsed over to the bank for payment.
2A. Payable jointly or in the alternative
Under UCC 3-110, when two names appear on a check, it is presumed to be payable alter-
natively if it is not clear whether it was intended to be joint. If it was joint, then both parties must
indorse for the transfer to be good.
3A. Requirements of an HDC
The payees met the definition of an HDC: value was given, the checks were taken in good faith,
and there never was a reason to suspect a problem.
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26-1A. Indorsements
(a) “For rent paid. [Signed] Jordan” is a blank indorsement. The words for rent paid
have nothing to do with the proper means of transfer and negotiation of the instrument. “Pay to
Better-Garden Nursery, without recourse. [Signed] Deborah” is a special qualified indorsement.
To properly negotiate this check, Deborah has to deliver and indorse the instrument. “For
deposit only. [Signed] Better-Garden Nursery” is a restrictive indorsement. It does not prohibit
26-2A. Holder in due course
To qualify as a holder in due course, Emilio must be a holder [UCC 1–201(20)], take the in-
strument for value, take the instrument in good faith, and take the instrument without notice of
dishonor, claim, defense, or that it is overdue. Because Emilio has the status of a holder
(having taken the instrument through due negotiation), has given value, and there is no
evidence she took in bad faith, the only issue is whether she took with notice. UCC 3–302(a)(1)
provides that a purchaser has notice of a claim or defense if “the instrument when issued or
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26-3A. Negotiation
(a) On its issue, this check was a bearer instrument. Any instrument that does not
designate a specific payee—such as an instrument “Payable to the order of cash”—is a bearer
instrument. Once the check was indorsed by Amber, however, it was no longer a bearer
instrument because it was locked in to the banking system for collection.
26-4A. Transfer and holder in due course
26–5A . BUSINESS CASE PROBLEM WITH SAMPLE ANSWER—Negotiation
A negotiable instrument can be transferred by assignment or by negotiation. An assignment is a
transfer of rights by contract. A transfer by assignment to an assignee gives the assignee only
those rights that the assignor possessed. Any defenses that can be raised against the assignor
can be raised against the assignee. When an instrument is transferred by negotiation, the
transferee becomes a holder. A holder receives at least the rights of the previous possessor.
Unlike an assignment, a transfer by negotiation can make it possible for the holder to receive
more rights in the instrument than the prior possessor had. A holder who receives greater rights
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is a holder in due course (HDC) and takes the instrument free of any claims to it and defenses
against its payment. Negotiating order instruments requires delivery and indorsement. If a party
26–6A. Indorsements
Yes, BAC can enforce the note. Under the UCC, the right to enforce an instrument and the
ownership of the instrument are two different concepts. The holder of a note is entitled to
enforce the instrument even if it is not the owner of the instrument or is in wrongful possession
of it. An instrument indorsed in blank can be transferred by delivery alone.
26–7A. Transfer by negotiation
Fannie Mae’s best response to Duong’s argument is that the indorsement was a blank
indorsement making the note payable to bearer. Thus, by coming into possession of the note,
Fannie Mae became its holder with the ability to enforce it. A bearer instrument is an instrument
that does not designate a specific payee. If an instrument is payable to bearer, it is negotiated
by delivery—by transfer into another party’s possession. Indorsement is not necessary.
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In this problem, Duong signed a note in favor of Country Home Loans, Inc. to obtain a
26–8A. Indorsements
Yes, the evidence offered by Nationstar Mortgage, LCC, established that the allonge was
sufficiently affixed to the note to prove Nationstar’s status as the holder of the note with the right
to enforce it. When an indorsement accompanies the transfer of a negotiable instrument, it is
most often written on the back of the instrument. If there is no room, the indorsement can be
written on a separate piece of paper—an allonge—that is affixed to the instrument and under
the UCC thereby made part of it. A blank indorsement does not specify a particular indorsee and
can consist of a mere signature.
In this problem, the Purificatos signed a note secured by their interest in certain real
property. The note was transferred through several parties to Aurora Loan Services. The
Purificatos defaulted, and Aurora sought to enforce the note and foreclose on the property.
While the suit was pending, Nationstar Mortgage succeeded Aurora and became the plaintiff. To
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26-9A. A QUESTION OF ETHICS—Indorsements
(a) The indorsement on Interior’s checks was a restrictive indorsement, which re-
quired the recipient (here, Pan American Bank) to comply with the instructions (here, “Deposit
Only”). Interior asserted UCC 3–206(c), which imposes liability on a bank for failing to honor a
restrictive indorsement. Interior claimed that Pan American was obligated under the
indorsement to deposit the checks into Interior’s account. Pan American's depositing the funds
in Leparski's account violated the indorsement, for which Pan American was liable.
The trial court ruled in Interior’s favor, and the state intermediate appellate court affirmed
this ruling. The appellate court explained that under UCC 3–206, a bank that receives checks
with restrictive indorsements is liable “unless the payee . . . receives the amount of the check
or unless the amount of the check is deposited in the endorser's account. It is undisputed that
neither occurred in the instant matter.”
26–10A. Holder in due course
(a) The bank does qualify as a holder in due course (HDC) for the amount of $5,000.
To qualify as an HDC, under UCC 3–302, one must take the instrument for value, in good faith,
and without being put on notice that a defense exists against it, that it has been dishonored, or
that it is overdue. In this situation the bank has given full value for the instrument—$4,850
($5,000 – $150 discount). Therefore, the bank is entitled to be an HDC for the face value of the
instrument ($5,000). In addition, the bank took the instrument in good faith and without notice of
the original incompleteness of the instrument (completed when purchased by the bank) or the
lack of authority of Hayden to complete the instrument in an amount over $2,000. The
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