Chapter 28
TRANSFERS OF NEGOTIABLE INSTRUMENTS AND
WARRANTIES OF PARTIES
RESTATEMENT
A negotiation of an instrument is a transfer so that the transferee becomes a holder. A holder is someone in
possession of an instrument that runs to them. An instrument runs to a party when they are a bearer, when it is made
payable to their order or indorsed to them.
The method for negotiation is determined by whether the instrument is bearer paper or order paper. Order
instruments are negotiated by indorsement and delivery or transfer of possession. Bearer instruments are negotiated
by delivery or transfer of possession.
The types of indorsements are blank (signature only which turns order instruments into bearer instruments); special
(“Pay to “ followed by signature which continues an order instrument as order or turns bearer into order);
qualified (“Without Recourse” which serves to disclaim certain warranty liability); restrictive (“For Deposit Only” which
requires the first party in receipt to comply with the restriction); anomalous (indorsement by one other than a holder);
corrective (indorsement that corrects spelling of the name); and bank (number or “Pay Any Bank” which eases
transfers among banks).
Forgeries of signatures along with imposters’ transfer of instruments present additional issues of liability in the
negotiation process.
Every transferor of commercial paper makes certain warranties to their immediate transferee as well as subsequent
transferees. An unqualified indorser warrants that the transferor has title, that the signatures are genuine and
authorized, that the instrument has not been altered, that the instrument is not subject to any defenses, and that they
have no knowledge of an insolvency proceedings against any makers, drawers or acceptors. An assignment of a
negotiable instrument is different in that an assignment does not carry these warranties.
STUDENT LEARNING OUTCOMES
LO.1: Explain the difference between negotiation of order paper and negotiation of bearer paper.
LO.2: List the types of indorsements and describe their uses.
LO.3: Determine the legal effect of forged and unauthorized indorsements.
LO.4: Be familiar with the forged payee impostor exceptions.
LO.5: List the indorser’s warranties and describe their significance.
INSTRUCTOR’S INSIGHTS
Break the chapter down into five components – related Learning Outcomes are indicated in ( ):
1. How are negotiable instruments transferred?
Cover the effects of transfer
2. How does negotiation occur? Bearer Instruments (LO.1)
3. How does negotiation occur? Order Instruments (LO.1)
Define the following indorsements and discuss their roles in negotiation:
Blank indorsement (LO.2)
Special indorsement (LO.2)
Qualified indorsement (LO.2)
4. What is the effect of forgeries and unauthorized indorsements? Problems in negotiation of instruments
Discuss the effect of forgeries and imposters on negotiation (LO.3 and LO.4)
5. What warranties are given by the parties upon transfer by negotiation or assignment? (LO.5)
CHAPTER OUTLINE
I. How are Negotiable Instruments Transferred?
A. Effect of transfer
B. Definition of negotiation: transfer of a negotiable instrument so that the transferee becomes a holder
C. Time for determining order or bearer character of paper – at the time negotiation is about to take place
II. How Does Negotiation Occur? Bearer Instruments
A. Negotiation of bearer paper
CASE BRIEF: Emmons v. Capital One
2012 WL 773288 (S.D. Miss. 2012)
FACTS: On September 22, 2006, Richard and Sabrina Emmons (plaintiffs) signed an adjustable rate
promissory note and deed of trust with Chevy Chase Bank (now known as Capital One) for a
property located in Vancleave, Mississippi. The note indicates that “[t]he Lender or anyone who
takes this Note by Transfer and who is entitled to receive payments under this Note is called the
‘Note Holder.’“ According to the terms of the deed of trust, “MERS is the beneficiary under this
Security Instrument.” Based on the assignment of deed of trust, executed on April 9, 2010, MERS
then assigned the Emmons’ deed of trust to U.S. Bank as trustee.
The deed of trust listed MERS and MERS’ successors and assigns as beneficiary and nominee. On
April 9, 2010, MERS assigned the deed of trust to U.S. Bank. The Emmons defaulted on their
payments. The deed of trust provides for a power of sale in the event of the borrowers’ default – a
right which U.S. Bank then proceeded with through a non-judicial foreclosure (power of sale). The
Simmons then filed suit alleging, among other things, wrongful foreclosure because they claimed
U.S. Bank was not a holder of the promissory note.
ISSUE: Can MERS bring a foreclosure action?
REASONING: The court held that the Emmons’ promissory note was a negotiable instrument that had been
indorsed in blank and was therefore bearer paper. It could be further negotiated to a holder via
delivery only. So, the holder of the note would have the right to conduct a foreclosure sale should
the parties fall into default on their payments. There was no wrongful foreclosure as long as the
party foreclosing was a holder of the note and there had been a default.
DISCUSSION POINTS: Ethics & the Law
Having Your Mortgage Set Aside
1. Everyone was doing what everyone else was doing – the norm had shifted and it became acceptable to just walk
2. Use the tools studied in Chapter 3 of focusing on the impact on others, the stakeholders, the long-term effects,
3. Legal is the bare minimum standard. The law is the minimum standard of behavior – you are allowed to do more
There are two legal obligations in a mortgage. The first is the promissory note for the debt – the amount borrowed for
the purchase of the home. The second is the mortgage or deed of trust itself – the pledge of the property as security
for the loan. If the property does not bring enough – there is still the underlying obligation.
III. How Does Negotiation Occur? Order Instruments
A. Discuss negotiation by indorsement and delivery
B. Types of indorsements
1. Blank indorsement (See Figure 28-1)
CASE BRIEF: Town of Freeport v. Ring
727 A. 2d 901 (Me. 1999)
FACTS: Thorton Ring was behind on his property taxes. When he received a check from Advest he wrote a
“Payable To” on the back but didn’t sign. The town put a lien on his property for non-payment of
taxes. Ring claimed he had indorsed the check and appealed.
ISSUE: Was the “Payable To” sufficient for an indorsement?
HOLDING: No.
REASONING: Ring’s name had to be signed for an indorsement and further negotiation.
b. Effect of blank indorsement
i. It passes ownership
ii. It gives rise to implied warranties
c. Converting the blank indorsement
2. Special indorsement (See Figure 28-2)
a. The indorsement specifies the indorser – “Pay to E.S. Flynn” on the face is not negotiable unless it
is a check
b. “Does the instrument lose its characteristic as a negotiable instrument because the indorsement
3. Qualified indorsement (See Figure 28-3)
a. A qualified indorsement is without recourse
b. Explain in detail the concept of secondary liability. Then explain how the qualified indorsement
DISCUSSION POINTS: E-Commerce & Cyberlaw
New Flexibility for Cyberspace Commercial Paper
Article 3 has more flexibility now because there is less face-to-face interaction; more trustworthiness is required.
4. Restrictive indorsements (See Figure 28-4)
a. Specify the purpose of the indorsement or the use of paper, “for deposit only”
b. Direct the students to UCC § 3-205, and give them examples of restrictive indorsements. The “for
deposit only” indorsement is probably used by the students. Consequently, start your explanation
5. Correction of name by indorsement – used to correct spelling
6. Bank indorsement
7. Multiple payees and indorsees
CASE BRIEF: Check City, Inc. v. L & T Enterprises
237 P. 3d 910 (Utah App. 2010)
FACTS: L & T Enterprises issued checks to one of L & T’s subcontractors and one of that subcontractor’s
suppliers. Check City cashed the checks, but did so with the indorsement of only the
subcontractor, not the supplier. The subcontractor had a long, positive history with Check City.
Although the reverse side of the checks contained what at cursory glance might appear to be two
signatures, even minimal attention to those signatures shows they are the subcontractor’s business
name and the signature of a presumably authorized employee, albeit in an order that is the
opposite of what is customary. Both entries are in the same handwriting, and a prudent person
cashing the checks could not possibly have mistaken the two entries for proper indorsements by
both the subcontractor and the subcontractor’s supplier.
Check City filed suit against L & T for negligence. The trial court held that L & T owed Check City a
duty and that L & T breached that duty, by failing to exercise ordinary care and substantially
contributing to an alteration of an instrument or forged signature. L & T appealed.
ISSUE: What is the duty of care of a party who is cashing checks?
HOLDING: The party cashing a check has the duty to obtain the necessary signatures and verify those
REASONING: Articles 3 and 4 of the UCC outline a scheme for allocating the loss resulting from an altered [or
forged] check among the parties involved in the check processing system … [through] a
burden-shifting framework.” J. Walter Thompson, U.S.A., Inc. v. First Bank Americano, 518 F.3d
128, 131 (2d Cir. 2008). The UCC differentiates between forged indorsements and missing
indorsements.
Here, the district court based its ultimate ruling on UCC section 70A-3-406, which precludes a party
that substantially contributes to an altered or forged instrument from asserting a claim against a
party who accepts the instrument in good faith. However, the checks in this case were not altered
or forged, but, instead, the indorsement of one of the joint payees was missing. Thus, the court
based L & T’s liability on an inapplicable section of the UCC, even though the action was based on
common law negligence.
On the facts of this case, UCC section 70A-3-406 simply did not impose any duty in favor of Check
City on L & T, and Check City bears the loss for cashing L & T’s checks made payable to two
payees when only one payee had indorsed them. Accordingly, the monetary judgment in favor of
Check City cannot stand.
The judgment in favor of Check City on its complaint is reversed. The parties will bear their own
costs on appeal.
DISCUSSION POINTS: Thinking Things Through
The Minor with an Embezzling Conservator
Furthermore, Unrue presented eight checks to BOA indicating she was a conservator or co-conservator. The
conservator title indicated to Yourko and Lawrence that Unrue was court appointed and court documents existed that
they were required to request and review. However, Unrue never offered the court documents or otherwise alerted
Yourko or Lawrence to her status as a court appointed conservator. Although BOA policy required Unrue to include
her title when endorsing the checks, she endorsed the checks without including her title as conservator. Finally, Travis
Powell was not present to negotiate the checks that listed him as co-conservator, even though BOA policy required
his presence to negotiate the checks payable to him and Unrue jointly as co-conservators. The bank had restrictive
indorsements and was limited on where those funds could go. Furthermore, the indorsements were not consistent
with the payee titles on the checks.
Reviewing the evidence in a light most favorable to Powell, we find the evidence presented at trial yields more than
one inference regarding whether BOA should have reasonably foreseen Unrue’s actions and the theft of Cody’s funds
in light of the attendant circumstances. Accordingly, we find the trial court properly denied BOA’s motion for JNOV as
to Powell’s negligence claim.
The jury found Bank of America, North America (BOA) liable for negligence and awarded Cody P. by and through his
Conservator, Kelly H. Kelley, and his natural and legal guardian, Elizabeth Powell (collectively Powell), $205,735.37
in actual damages and $1,583,000 in punitive damages.
The liability was for the bank’s sloppiness in checking indorsements and matching payees to accounts and failure to
be certain that checks were placed in proper accounts upon their deposit.
Ratio of punitive to actual damages of 7.69 to 1 was reasonable under due process clause, in minor life insurance
beneficiary’s negligence action against bank regarding conservator’s misappropriation of minor’s funds; award would
be likely to deter bank from similar conduct in the future and to better train its employees, bank had ability to pay
award, and amount of damages was related to amount of time it would have taken bank to set up minor’s accounts
with appropriate safeguards.
8. Agent or officer as payee
9. Missing indorsement
a. An indorsement can be required if the transferee gave value
b. Have the students solve the following problem:
Assume that you (the student) have a garage sale, and a customer wishes to purchase a $40 item,
paying you with a $20 bill and a $20 dividend check payable to your customer by General Motors
Corporation for recently declared stock dividends. You agree to the purchase, and the customer
takes the item and leaves. Later in the day, you discover that the customer failed to indorse the
General Motors stock dividend check to you. What do you do about it?
Answer: The student is not a holder of the check until obtaining the indorsement, and therefore, the
student cannot negotiate the check. The student could bring a lawsuit to compel the indorsement
as long as the student gave value for the check. However, it is doubtful that the student will bring a
lawsuit on a $20 check. As a practical matter, how would the student locate the customer who failed
to indorse? Use the telephone book? That might work, but what if the customer is from out of the
IV. What is the Effect of Forgeries and Unauthorized Indorsements? Problems in Negotiation of Instruments
A. Forged and unauthorized indorsements
CASE BRIEF: B.D.G.S., Inc. v. Balio
861 N.E. 2d 813 (N.Y. 2006)
FACTS: B.D.G.S., Inc., a New York corporation with headquarters in Washington, owns a warehouse in
Utica, New York. In 1991, B.D.G.S. entered into an oral agreement with two local men, Anthony
Balio and his employee, Peter Duniec, to manage the warehouse. Their responsibilities included
finding tenants and collecting rent, which was then to be forwarded to B.D.G.S. and deposited into
its bank account in Washington. Balio and Duniec formed the Beechgrove Warehouse Corporation
and maintained a business account in that name at Savings Bank of Utica (SBU).
Between 1996 and 2000, B.D.G.S. believed that one of its tenants, Rite-Aid, had been falling
behind and failing to make its rent payments. B.D.G.S. later discovered that Rite-Aid had been
making the payments, but 16 checks had been indorsed to Beechgrove Warehouse and deposited
into Beechgrove’s own SBU account. The checks had been made payable to DBGS (an apparent
typographical error). With minor variations, there was a handwritten indorsement on the back of
each check stating,
“DBGS, Inc.
Pay to the order of
Beechgrove Warehouse
For Deposit”
with Beechgrove’s SBU account number underneath. A substantial refund check from Niagara
Mohawk in the amount of $427,781.82 had similarly been indorsed and deposited in the SBU
account. B.D.G.S. filed suit against SBU, Balio, Duniec, Beechgrove Warehouse and B. & R. Motor
Express, Inc. (another corporation allegedly owned by Balio). B.D.G.S. also brought a claim against
SBU.
The jury found that SBU had not acted in accordance with reasonable commercial standards by
accepting the checks for deposit. The appellate court affirmed and SBU appealed.
ISSUE: Who is liable for the forgeries of the checks?
HOLDING: The court affirmed noting that SBU was dealing with a payee forgery and it was SBU’s
REASONING: Because SBU was the one that had contact with Balio and Duniec it had a chance to prevent the
embezzlement but its practices were not detailed enough to catch payee forgeries.
DISCUSSION POINTS: Have the students discuss who is liable for check forgeries using the B.D.G.S., Inc. v.
Balio case.
B. Impostor rule – quasi forgery
1. In discussing this section, emphasize that indorsements made by an impostor are not forgeries and that
2. When impostor rule is applicable
a. Impersonating payee – the identity is assumed by the payee/impostor
3. Effect of impostor rule – drawer is liable, not drawee
4. Limitations on imposter rule – the rule does not apply if the check is to an existing creditor
CASE BRIEF: Unlimited Adjusting Group, Inc. v. Wells Fargo Bank
94 Cal. Rptr. 3d. 672 (2009)
FACTS: Won Charlie Yi solicited money from investors in the Korean–American community (plaintiffs) by
representing that he would invest their money in brokerage accounts at Carlin Equities Corporation,
a nationally recognized broker-dealer based in New York. Yi, however, did not invest the money he
received from plaintiffs at all. Instead, Yi registered the name “Carlin Co.” as a fictitious name under
which he did business. He opened a bank account at Wells Fargo in the name of “Won Charlie Yi
dba Carlin Co.” Between January and September of 2003, Yi received eight checks, totaling $6.3
million, payable to “Carlin Co.,” “Carlin Corp.” or “Carlin Corporation.” Yi deposited the checks into
his Wells Fargo account and absconded with plaintiffs’ money. He was later apprehended by
federal authorities and convicted of a variety of criminal fraud charges.
The defrauded investors filed suit against Wells Fargo to recover their losses for the bank’s lack of
ordinary care in being certain that the checks deposited were deposited with the intended payee. A
jury found in favor of Wells Fargo and the investors appealed.
ISSUE: Was Wells Fargo liable for enabling a fraudster when it did not know fraud was afoot? Are the
indorsed instruments with various names for the company Charlie owned validly indorsed?
HOLDING AND
REASONING: The court affirmed the lower court’s decision because the checks were made out to an intended
payee. Although there were differing names on the check and the indorsements were not always
precise, the parties intended the checks to go to Charlie’s company and Charlie’s account. Charlie
5. Negligence of drawee not required
C. Effect of incapacity or misconduct on negotiation
D. Lost instruments
1. Order instruments
2. Bearer paper – the finder is a holder
V. What Warranties are Given By the Parties Upon Transfer by Negotiation or Assignment?
A. Warranties of unqualified indorser
1. Scope of warranties
a. Transferor can enforce
b. Signatures genuine and authorized
2. What is not warranted – no guarantee that payment will be made
3. Beneficiary of implied warranties – the warranties of an unqualified indorser pass to the transferee. The
4. Disclaimer of warranties – can be disclaimed except for a check, “without warranties”
5. Notice of breach of warranty – within 30 days of knowledge of breach and indorser identity; if not, claim
B. Warranties of other parties
1. Qualified indorser – same as the unqualified indorser
2. Transferor by delivery – delivery can be made only to the immediate transferee – review with the
ANSWERS TO QUESTIONS AND CASE PROBLEMS
1. Delivery and negotiation. The Official Comment to § 3-420 states that delivery of an instrument occurs when it
“comes into the payee’s possession, as for example when it is put into the payee’s mailbox.” Constructive
2. Negotiation. The signature of all of the parties would be required for further negotiation – it is all joint payees and
3. Joint payees/either/or payers. In the statutory scheme of articles three and four of title 42a of the General
Statutes, an instrument that is ambiguous about the relationship between designated payees is an instrument
The trial court properly determined that the language of the settlement check was ambiguous as to whether it
was payable jointly or payable in the alternative and that, due to that ambiguity, the check must be treated as
When there are multiple payees, revised Article 3 requires all signatures for joint payees. If there is an ambiguity,
4. Indorsement delivery. SMS Financial was holder of note, regardless of action by FDIC; the court remanded for
presentation of maker’s defenses. Although the delivery was inadvertent, it was still delivery to the company the
5. Negotiation. The bank did not convert the draft. The proper indorsement for the draft was lacking because the
instrument was order paper with joint payees. The signature of Jerry O. Peavy, Jr., and the indorsement of Trust
6. Impostor; forged endorsements. The case is a dummy payee case and Amex is not liable. Amex was not
7. The impostor rule. No. This was not an impostor situation. The impostor rule does not apply when there is a
valid check to an actual creditor for a correct amount and thereafter someone forges the payee’s name. This is
8. “For deposit” indorsement as restrictive. The indorsement “for deposit” was restrictive and made the indorsee an
9. Indorsements; joint payees. Yes, the check was one to joint payees where both signatures were required. There
were joint payees and the signatures of both were required. The check required the valid signatures of all
parties. Allstate is not liable to Bank of America, but the bank that cashed the check for the Tangs is liable for its
10. The impostor rule. No. This case is one of the three impostor situations. It is the situation of an employee of the
drawer preparing commercial paper (ordinarily checks or drafts) for the drawer-employer to sign, with the intent
that the payees named in the checks shall have no beneficial interest therein and that the employee or a
11. Forged indorsements. Judgment for the bank. Richard ratified the forgery when he asked the bank to take no
12. Forgery; unauthorized signature. The court held that for practical purposes of conversion of check action, there
was very little difference between unauthorized indorsement and forged indorsement. An employee authorized
13.Joint payees. The checks bore only the names “Complete Design, Allied Capital Partners, L.P.” Each check bore
a single designation of “L.P.” and a single address. There was no indication that the checks were payable jointly
14. Restrictive indorsement. In the case, the court held the bank would be liable for depositing the check into the
15. Impostor rule. The court held that the UCC still applies when the employee is directing check funds to himself or
herself. [Koss Corp. v. American Exp. Co ., 309 P. 3d 898 (Ariz. App.)]
management system for classroom use.