Commercial Paper Under UCC Article 3

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The law of commercial paper and payments is an important part of commercial law and business law more generally. This area of law deals with answering the fundamental question of “How do we pay for things?” Why does money have legal affect? While this article will be a general overview, if you have specific questions about your case, please request a call using the form below.

What is Commercial Paper Law?

The easiest and most fundamental way we pay for things is with cash. Cash is “legal tender.” Cash, however, has limitations. Storing it is very difficult and there is a risk of loss or damage. There’s always a risk of theft. It is difficult to carry a large amount of cash and hard to count. It’s risky to ship large piles of money. A lot of people don’t always have all the capital they need to make big purchases.

As a result, instead of always using cash, we engage in other types of transactions to pay for things. Credit transactions, wire transactions, and debit card transactions are a few examples. These types of payments are governed by commercial law. Any time we enter into a non-cash transactions, we trust the other person and they’re putting their trust in us. The trust in these methods is paramount to the workability of the system. They are relying on our promise or the ability to sue us if we don’t pay.

Commercial paper law provides a framework governing these transactions and allows people to trust the types of paper and cards we use because they know they will have rights associated with them. Entities have to trust that they can get cash from the instruments they are using in business. Commercial paper laws take an otherwise unremarkable piece of paper and define a set of requirements that, if met, invoke legal status and associated rights to the parties involved in creating and transferring the paper. You can use a check at a grocery store but you can’t use some piece of paper that says I owe you. The reason why not is essentially because of commercial paper law.

Negotiable Instruments and the Uniform Commercial Code

Under the Uniform Commercial Code (“UCC”), these pieces of paper are called negotiable instruments. A negotiable instrument is a special instrument endowed with legal characteristics that allows it to move through commercial channels more freely than a normal piece of paper. Commercial paper is the subject of negotiable instruments in Article 3 of the UCC.

Negotiable instrument have two purposes. The first is credit. Say you want to buy something that you don’t have enough money to purchase. When you take out a loan, you sign a promissory note to repay the loan balance. You are essentially saying “I promise to repay this loan in such and such installments over the course of however long.” The promissory note is a contract but it is also a negotiable instrument so long as it has the special characteristics designed to allow it to function a little bit like cash. The bank or loan officer can sell that negotiable instrument, and perhaps discount it, to more easily facilitate its movement and the person who buys it can treat it similarly to cash. The buyer will be able to recover that money from you at the end of the day. Article 3 has a lot of protections that makes people trust these types of documents and buy and sell them.

In addition to credit, the instruments are used for payment. We use it in lieu of money. Stores will accept a personal check but they won’t accept some random piece of paper that says you’ll pay later. Even if you authorize your bank to pay the store with a piece of notebook paper, they’re not going to accept it. Is this really that different than a check? It technically is! If written on a check, there are protections under the law of commercial paper. Commercial paper law gives checks special properties, rights and obligations that make certain specific instruments such as checks function more like cash than normal pieces of paper.

Commercial Paper Example

Imagine you get a loan from a lender and during the process, they have you sign a promissory note agreeing to pay the loan back to them. The promissory note will have the terms of loan and your signature. The lender can trust that because you signed this note, it should have legal affect so long as it is in compliance with commercial paper law. The basis of the trust comes from commercial law. The lender will have rights they can enforce to obtain payment of this loan and the rights will usually extend to a subsequent transferee. That is to say, the promissory note itself can be “negotiated” to other parties and they can also trust it will be backed with legal affect. If you sign an enforceable note promising to repay a loan, the lender can discount it to a third-party, get paid a little bit less than the principal amount The second buyer can then sell it to a fourth party who can seek enforcement of the note and make you pay them. The maker of the note is required to pay whoever is entitled to enforce the instrument when the requirements of the law are met. Bear in mind there are specific requirements and in a lot of cases, the maker of the note may have a defense to payment that arose from the initial transaction. Say the loan never came through and you never got the principal or you were defrauded. Maybe the interest rate is too high and it constituted usury. There are many factors involved so if you have questions about your specific case, schedule a consultation with a local UCC lawyer.

Contact A UCC Attorney to Discuss Your Business

There’s certainly quite a few more important aspects when it comes to Article 3 of the Uniform Commercial Code. It often depends on the type of business you are in and the unique facts and circumstances of your case as well as State law. If you’d like to find out more and have a UCC lawyer from our team provide more narrowly tailored insight based on your business, give us a call today at 419-469-5002.