New York Law Review

Tag: holder in due course

  • Israel Discount Bank Ltd. v. Rosen, 59 N.Y.2d 428 (1983): Enforceability of Promissory Notes and Holder in Due Course Status

    Israel Discount Bank Ltd. v. Rosen, 59 N.Y.2d 428 (1983)

    A bank cannot claim holder in due course status on promissory notes if it had knowledge that the underlying agreement for which the notes were issued was rescindable at will, rendering the notes voidable.

    Summary

    Israel Discount Bank sought summary judgment against diamond merchants Rosen and Consolidated Jewelry Co. to enforce promissory notes. These notes were initially made out to a diamond seller, Siegman, who then endorsed them to the bank as collateral. The defendants argued failure of consideration because the underlying diamond transactions allowed for rescission without liability, a fact allegedly known to the bank. The New York Court of Appeals reversed the lower courts’ decisions, holding that the defendants presented sufficient evidence to raise triable issues of fact regarding the bank’s knowledge of the voidability of the notes, precluding summary judgment for the bank as a holder in due course.

    Facts

    Rappaport and Fishman, operating as Consolidated Jewelry Co., and Rosen, regularly purchased diamonds from Siegman, issuing promissory notes in his favor as payment. Siegman then endorsed these notes to Israel Discount Bank to secure loans and collateralize existing debt. The bank later presented the notes for payment, but they were dishonored by Rosen and Consolidated. The bank sued, seeking to enforce the notes as a holder in due course.

    Procedural History

    The Supreme Court initially denied the bank’s motion for summary judgment in the Rosen case, finding factual issues regarding the bank’s knowledge of the transactions. However, the Supreme Court granted the motion in the Consolidated case. The Appellate Division reversed in Rosen and affirmed in Consolidated, relying on a prior decision, but the Court of Appeals reversed both appellate decisions.

    Issue(s)

    1. Whether the promissory notes issued to Siegman were predicated on agreements rescindable at will, thereby rendering the notes voidable obligations.
    2. Whether Israel Discount Bank had knowledge of the alleged voidability of the notes at the time it accepted them.

    Holding

    1. Yes, because the defendants presented evidence suggesting that the underlying diamond transactions allowed any party to rescind the agreement without liability, effectively making the agreements and related notes nullities.
    2. Yes, because the bank’s own invoices and conduct indicated its awareness of the customers’ right to return or refuse diamonds, which would make the bank aware that the obligations were voidable.

    Court’s Reasoning

    The court reasoned that to claim holder in due course status, the bank must have taken the notes for value, in good faith, and without notice of claims or defenses against them. If the bank knew the underlying agreements were voidable, it could not be a holder in due course. The court found that the defendants submitted sufficient evidence to raise triable issues of fact on this point. Affidavits from all parties stated the agreements were rescindable at will, which meant the notes could be considered voidable obligations. The bank’s own invoices contained a return/refusal clause, providing further evidence the bank was aware of the non-binding nature of the transactions. The Court distinguished this case from First Int. Bank of Israel v Blankstein & Son, where the evidence was insufficient to demonstrate the bank’s knowledge. The Court quoted U.C.C. § 3-304(4)(b) stating that knowledge that the instrument was issued in return for a binding executory promise does not of itself give the purchaser notice of a defense or claim because the code does not require the holder to presume that a party will breach his promise and thereby give rise to a defense to performance.

  • Israel Discount Bank Ltd. v. L. Blankstein & Son, Inc., 58 N.Y.2d 436 (1983): Notice of Voidable Obligations and Holder in Due Course Status

    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.

  • Marine Midland Bank v. Price, Miller, Evans & Flowers, 57 N.Y.2d 220 (1982): Supplying Missing Indorsement & Holder in Due Course Status

    Marine Midland Bank v. Price, Miller, Evans & Flowers, 57 N.Y.2d 220 (1982)

    A bank that stamps a check “credited to the account of the payee” without verifying if the payee has an account, and then wire transfers the funds, does not give value consistent with the indorsement and thus cannot claim holder in due course status when payment is stopped.

    Summary

    Marine Midland Bank cashed checks made out to Leo Proctor Construction without Proctor’s endorsement, stamping them “credited to the account of the payee” and wire transferring the funds. Proctor had no account at Marine Midland. When the drawer, Price, Miller, Evans & Flowers (a law firm), stopped payment due to Proctor’s default, Marine Midland sued, claiming holder in due course status. The Court of Appeals held that while the bank could supply the missing indorsement, it failed to give value consistent with the indorsement because it wire-transferred funds instead of crediting an account, and thus could not be a holder in due course.

    Facts

    The defendant, a law firm, made progress payments to Leo Proctor Construction via checks totaling $36,906.54. The checks were drawn on a trust account at First National Bank of Jamestown, payable to Proctor. A Proctor employee presented the checks to Marine Midland Bank, requesting a wire transfer to Proctor’s account in Oklahoma. The checks lacked Proctor’s endorsement. Marine Midland stamped the checks “credited to the account of the payee herein named/Marine Midland Chautauqua National Bank” and wire transferred the funds. Proctor did not have an account with Marine Midland. The law firm, upon learning of Proctor’s default, stopped payment on the checks.

    Procedural History

    Marine Midland sued the law firm to recover on the stopped checks. The case was submitted directly to the Appellate Division on an agreed statement of facts. The Appellate Division ruled in favor of Marine Midland, holding that the bank had properly supplied the missing indorsement and was a holder in due course. The law firm appealed to the New York Court of Appeals.

    Issue(s)

    Whether a depositary bank that cashes a check without endorsement, stamps it “credited to the account of the payee,” and wire transfers the funds, can claim holder in due course status under the Uniform Commercial Code when the payee has no account with the bank and payment on the check is stopped.

    Holding

    No, because the bank did not pay or apply value given for the instrument consistently with the indorsement. The bank’s actions were inconsistent with the restrictive indorsement it supplied, preventing it from achieving holder in due course status.

    Court’s Reasoning

    To attain holder in due course status, a party must be a holder of a negotiable instrument, taking it for value, in good faith, and without notice of defenses. Under UCC § 4-205(1), a depositary bank may supply a missing indorsement of its customer. While Proctor was arguably a “customer” because Marine Midland agreed to collect the checks, the bank failed to satisfy all requirements for holder in due course status. The stamp served as an effective indorsement under UCC § 4-205(1), but the bank did not give value consistent with the indorsement. UCC § 3-206(3) requires a transferee under a restrictive indorsement (such as “for deposit”) to pay or apply value consistently with the indorsement. Because the bank wire-transferred the funds rather than crediting an account (which didn’t exist), it failed to give value as required. The court rejected the bank’s argument that no indorsement was required when the check is presented by the payee, stating that such an exception cannot be reconciled with the UCC’s requirement for predictable results. The court quoted UCC § 4-205 comment 1 that the purpose of the section is “to speed up collections by eliminating any necessity to return to a non-bank depositor any items he may have failed to indorse”. The court further observed: “It hardly seems unfair to penalize the bank when it fails to perform such a simple act and then seeks the unusual shelter of the holder in-due-course status”.

  • Marine Midland Bank-New York v. Graybar Electric Co., 41 N.Y.2d 703 (1977): Bank’s Holder in Due Course Status and Setoff Rights

    Marine Midland Bank-New York v. Graybar Electric Co., 41 N.Y.2d 703 (1977)

    A bank does not become a holder in due course of a check merely by giving a provisional credit for the check and then unilaterally applying that credit to a debt owed to the bank when the credit is later reversed due to a stop payment order.

    Summary

    Marine Midland Bank sought to recover from Graybar Electric on a check Graybar had issued to Dynamics Corp. The bank had provisionally credited Dynamics’ account for the check and then set off the balance against Dynamics’ debt to the bank. Graybar stopped payment on the check. The court held that the bank was not a holder in due course because it had only given provisional credit, and therefore could not recover from Graybar. The court emphasized that a bank’s unilateral application of provisional credit does not constitute giving value under the UCC, especially when the credit is later reversed.

    Facts

    Dynamics Corp. had loans from Marine Midland Bank. In July 1972, Dynamics requested an extension on a $4,420,000 note, which the bank refused. The bank informed Dynamics it would set off balances in Dynamics’ accounts against the debt. Among the items deposited in Dynamics’ account on July 28, 1972, was a check from Graybar Electric for $137,989.47 payable to Dynamics’ Waring Products Division. The bank forwarded the check for payment, but Graybar had issued a stop payment order on July 31, 1972. Graybar subsequently issued a replacement check for a lesser amount. The bank then sued Graybar to collect on the original check, asserting holder in due course status.

    Procedural History

    The bank sued Graybar in Special Term, seeking payment on the check as a holder in due course. Graybar interpleaded Dynamics. Special Term denied the bank’s motion for summary judgment, dismissed its complaint, denied Graybar’s request for discharge, and denied Dynamics’ cross-motion. The Appellate Division affirmed. The Court of Appeals affirmed, but on different grounds than the lower courts.

    Issue(s)

    1. Whether a bank is entitled to set off a check payable to its customer, deposited in an account with the bank, against that customer’s indebtedness to the bank when a stop payment order is placed on the check?

    2. Whether a bank that provisionally credits a customer’s account for a check and then sets off the balance against the customer’s debt becomes a holder in due course, thus precluding a stop payment order?

    Holding

    1. No, because under the circumstances, the bank did not become a holder in due course.

    2. No, because the provisional credit given by the bank did not constitute “value” under the Uniform Commercial Code, and the bank’s unilateral action did not elevate the transaction to the level of those instances where value is considered to be given.

    Court’s Reasoning

    The court reasoned that while a bank generally has the right to set off a borrower’s accounts against matured indebtedness, setting off on the day the loan is due is premature. However, the crucial point was whether the bank gave value for the check. The bank argued it gave value by acquiring a security interest in the check when it applied the credit to Dynamics’ debt. The court disagreed, finding the credit was provisional and reversed upon notice of the stop payment order. The court distinguished this situation from cases where the bank actually extinguishes the debt. “To say that the bank was doing something of advantage to Dynamics by applying the credit to that depositor’s indebtedness is to ignore what actually occurred. The bank was merely seeking to protect itself and not giving value, in any traditional sense, or under the Uniform Commercial Code.” Since the bank did not give value, it could not be a holder in due course and therefore could not recover on the check. The court emphasized that its determination was based on the conclusion that what the bank did was merely give a provisional credit for the Graybar check. “That the bank unilaterally agreed to apply this provisional credit to Dynamics’ indebtedness should not elevate the transaction to the level of those instances where value is considered to be given under the Uniform Commercial Code.” Therefore, since the bank did not give value, it is not a holder in due course and cannot recover on the check.

  • Tradesmen’s National Bank v. Curtis, 167 N.Y. 194 (1901): Enforceability of Drafts Accepted on Executory Contracts

    Tradesmen’s National Bank v. Curtis, 167 N.Y. 194 (1901)

    A holder in due course can enforce a draft accepted in exchange for a promise of future performance, even if the holder knows of the underlying executory contract, unless the holder also knows of a breach of that contract at the time of purchase.

    Summary

    The Tradesmen’s National Bank discounted drafts accepted by Curtis & Blaisdell in exchange for the Natalie Anthracite Coal Company’s promise to deliver coal. Curtis & Blaisdell argued the drafts were unenforceable because the coal was never delivered, and the bank knew of this condition. The Court of Appeals held that the bank, as a holder in due course, could enforce the drafts because, at the time of the discount, there was no known breach of the coal delivery agreement. Knowledge of the underlying executory contract alone is insufficient to defeat holder in due course status; knowledge of a breach is required.

    Facts

    The Natalie Anthracite Coal Company arranged with Curtis & Blaisdell to deliver coal over four months. Curtis & Blaisdell accepted drafts drawn by the Coal Company, payable in four months. The Coal Company then sold these drafts to Tradesmen’s National Bank for value, before the drafts were overdue and before any dishonor. The Coal Company failed to deliver the coal. Curtis & Blaisdell refused to pay the drafts upon maturity, arguing a failure of consideration and the bank’s knowledge of the conditional agreement.

    Procedural History

    The Tradesmen’s National Bank sued Curtis & Blaisdell to enforce the accepted drafts. The lower court ruled in favor of Curtis & Blaisdell. The Appellate Division affirmed the lower court decision. The New York Court of Appeals reversed, holding the bank was a holder in due course and could enforce the drafts.

    Issue(s)

    1. Whether knowledge that a draft was accepted in consideration for an executory contract, without knowledge of a breach of that contract, prevents a purchaser of the draft from becoming a holder in due course?
    2. Whether a bank cashier’s knowledge, gained while acting as a director of the company that sold the drafts, can be imputed to the bank itself?

    Holding

    1. No, because knowledge of the underlying executory contract, without knowledge of its breach, does not defeat holder in due course status.
    2. The court assumed, without deciding, that the cashier’s knowledge was imputed to the bank for the sake of argument.

    Court’s Reasoning

    The Court reasoned that the drafts were facially valid and the bank took them for value before maturity and without notice of dishonor. The key legal principle is that “it would be no defense to these acceptances that they were given upon an executory contract for the sale of merchandise, even if the plaintiff knew that an agreement existed between the makers and the acceptors that the drafts were not to be enforced until the merchandise was delivered, unless the acceptances were discounted with knowledge of the breach.” The court emphasized that at the time of the discount, the Coal Company had not breached its promise to deliver coal. The promise to deliver coal was sufficient consideration for the acceptance of the drafts. The dissenting opinion in the Appellate Division was noted, but the Court of Appeals focused on the broader principle that knowledge of the executory contract alone is insufficient to defeat the bank’s claim as a holder in due course. The court found no evidence that the bank, through its cashier, agreed not to enforce the drafts if the coal was not delivered. The testimony suggested the Coal Company would take care of the drafts if the coal wasn’t delivered, not the bank. The Court directly quoted from the testimony: “If the coal is not delivered, the acceptance will be taken up.” This quote indicates the Coal Company’s responsibility, not the bank’s. Therefore, the bank was entitled to enforce the drafts against Curtis & Blaisdell.