Israel Discount Bank Ltd. v. L. Blankstein & Son, Inc., 58 N.Y.2d 436 (1983)
A holder of a promissory note is not a holder in due course if they had notice that the obligation of any party is voidable in whole or in part, but knowledge that a note was issued in return for an executory promise does not give the holder notice of a defense unless they know a defense has arisen from the terms thereof.
Summary
Israel Discount Bank (the Bank) sued L. Blankstein and Son, Inc. (Blankstein) and Jacob Klein and Son, Inc. (Klein) to recover on promissory notes. The notes were initially issued to Leo Siegman, a diamond merchant, who then endorsed and delivered them to the Bank as security for a loan. Blankstein and Klein argued that the Bank was not a holder in due course because it knew the notes were related to diamond sale agreements where Siegman could refuse delivery, or they could return diamonds without obligation. The New York Court of Appeals held that the Bank was a holder in due course because Blankstein and Klein failed to prove the Bank had actual knowledge that the notes were predicated on voidable obligations, not binding executory contracts. Therefore, the Bank took the notes free of personal defenses.
Facts
Leo Siegman, a diamond merchant, received promissory notes from Blankstein and Klein for diamond sales/consignments. Siegman endorsed these notes in blank and delivered them to Israel Discount Bank as security for a loan. When the Bank presented the notes for payment, they were dishonored (returned unpaid). The Bank then sued Blankstein and Klein.
Procedural History
The Supreme Court initially denied the Bank’s motion for summary judgment. The Appellate Division reversed and granted summary judgment to the Bank, holding that the Bank was a holder in due course and parol evidence was inadmissible to contradict the notes. The New York Court of Appeals affirmed the Appellate Division’s order granting summary judgment to the bank, but based its holding on different reasoning regarding the Bank’s status as a holder in due course and the knowledge it possessed.
Issue(s)
Whether the Bank was a holder in due course of the promissory notes, and therefore took the notes free of personal defenses asserted by Blankstein and Klein.
Holding
Yes, the Bank was a holder in due course, because Blankstein and Klein failed to present sufficient evidence that the Bank had actual knowledge that the notes were based on voidable obligations, rather than binding executory contracts. Consequently, the Bank took the notes free of the makers’ personal defenses.
Court’s Reasoning
The court reasoned that under UCC § 3-302, a holder in due course takes an instrument (1) for value; (2) in good faith; and (3) without notice that it is overdue or has been dishonored or of any defense against or claim to it. The court found that the Bank gave value and acted in good faith. The critical issue was whether the Bank had “notice of a claim or defense.” Under UCC § 3-304(1)(b), a holder has notice of a defense if they know the obligation is “voidable.” Blankstein and Klein argued the notes were referable to nonbinding agreements. The Bank countered that its knowledge of an executory promise (future diamond delivery) did not constitute notice of a defense unless it knew a defense had arisen (UCC § 3-304(4)(b)).
The court distinguished between executory promises and voidable obligations. An executory contract is one where a party binds itself to perform in the future. Knowledge of an executory contract alone is insufficient to defeat holder in due course status. However, knowledge that an agreement is rescindable at will provides notice that a defense has arisen. The burden was on Blankstein and Klein to prove the Bank had actual knowledge that the notes were predicated on voidable obligations. The court emphasized that while the defendants alleged a general custom in the diamond trade that notes were merely evidence of transactions, they failed to provide evidentiary facts showing the bank had *actual knowledge* of the voidable nature of the instruments. The court stated, “Summary judgment on a note will be defeated only where material issues of fact are raised which are ‘genuine and based on proof, not shadowy and conclusory statements’.” Because they failed to demonstrate this, the Bank was a holder in due course and took the notes free of personal defenses. The court also clarified that parol evidence is admissible to show a holder did not take the instrument for value, in good faith, or without notice of claims/defenses, even if the note is unconditional on its face; this evidence isn’t to vary the terms of the note, but to show the bank wasn’t a holder in due course.