Chapter 17 Holders in Due Course, Defenses, and Liabilities
9. Under the holder in due course rule, holders of consumer credit contracts who are
holders in due course are subject to all claims and defenses that the buyer could use
against the seller, including personal defenses.
III. Real Defenses (17-3)
A. Introduction
1. Defenses that can be used against everyone, including holders in due course, are
known as real defenses or universal defenses.
2. Real defenses include infancy and mental incompetence, illegality and duress, fraud
as to the essential nature of the transaction, bankruptcy, unauthorized signature, and
alteration.
B. Infancy and Mental Incompetence
1. A minor or mental incompetent need not honor a negotiable instrument if it was given
in payment for a contract that the minor or mental incompetent may disaffirm on the
grounds of minority or incompetency.
2. The defense is valid even if the instrument comes into the hands of a holder in due
course.
3. Persons who have been found insane by a court are not liable on a negotiable
instrument because their contracts are void.
C. Illegality and Duress
1. An instrument that is associated with duress or an illegal act is void and uncollectible
by anyone, even a holder in due course.
2. The instrument is uncollectible even if held by a holder in due course with no
awareness of the illegal acts or condition.
D. Fraud as to the Essential Nature of the Transaction
1. Fraud as to the essential nature of the transaction occurs when the defrauded party has
no knowledge or opportunity to learn the true character or terms of the matter.
2. It is a real defense and may be used against anyone.
E. Bankruptcy
1. Bankruptcy may be used as a defense to all negotiable instruments.
2. Holders of such instruments will receive equal treatment with other similar creditors
when the debtor’s assets are collected and divided according to the bankruptcy law.
F. Unauthorized Signatures
1. Whenever someone signs another’s name on an instrument without authority, it is a
forgery, a real defense.
2. Unless ratified, it does not operate as the signature of the person whose name is
signed and instead operates as the signature of the person who signed it.
G. Alteration
1. An alteration usually involves changing the payee’s name or raising the amount of an
instrument.
2. The alteration of an instrument may be used as a real defense.
3. Unless the instrument is written negligently, drawers are not required to pay altered
amounts; and they must pay only the amount for which the instrument was originally
written.
IV. Liability of the Parties (17-4)
A. Makers, Acceptors, and Certain Drawers
1. Some parties are obligated to pay an instrument without reservation.
Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or
distribution without the prior written consent of McGraw-Hill Education.