Learn About the Law
Get help with your legal needs
FindLaw’s Learn About the Law features thousands of informational articles to help you understand your options. And if you’re ready to hire an attorney, find one in your area who can help.
BLISS et al. v. CALIFORNIA CO-OP. PRODUCERS et al.
Judgment was given for plaintiffs against defendants and appellants Shidler, Winchester and Galbreath on three promissory notes of which they were the makers. Their defenses, among others, were fraud and failure of consideration. Plaintiffs are the transferees of the notes, the payee being California Cooperative Producers, a corporation.
The series of events leading up to the execution of the notes had their beginning in 1926. In that year the idea was conceived by Mr. Johnson, president of the Union Construction Company, and a Mr. Campbell, to use the shipping terminal facilities and property at the harbor in Oakland, California, then held by the Union Construction Company under a lease from the city of Oakland, for a terminal for processing and shipping agricultural products. It was proposed to form a corporation to be known as California Cooperative Producers (hereinafter referred to as the corporation, which was later formed), as the instrumentality to conduct the enterprise. A promotional firm, Allen, Hobson and Simons, a copartnership, was engaged under contract of April 15, 1927, to promote and organize the business and conduct a campaign to induce growers of agricultural products to let the corporation handle their products. The corporation was incorporated on Paril 26, 1927, with a capital stock of $15,000 under the then section 653a of the Civil Code authorizing ordinary business corporations to divide a portion of their profits among persons other than their stockholders. The stock (other than director's qualifying shares) was to be issued only to associations of producers (which were to be organized) who marketed their products through the corporation. Johnson was named president and Hobson and Allen directors of the corporation. Pursuant to a permit therefor one share of stock was issued to each director.
The promotional firm launched its drive, made financial arrangements, and obtained manufacturing and marketing contracts, hereafter called marketing contracts, for the corporation from many producers of agricultural products, including the three appellants, in which the producers agreed to market their products through the corporation. Appellants, as producers, were members of either one or the other of two producer's associations formed pursuant to the plan. The associations' manufacturing and marketing agreement, hereafter referred to as association contract, with its member-producers and the marketing contracts required its members to deliver their products to the corporation. The marketing contracts called for the procurement of policies of insurance on the lives of the producers, the corporation to pay the premiums, and provided: ‘In order to assist in the manufacturing and/or marketing of said products, and in further consideration of the payment of the premiums on policies of endowment life insurance on the life (name of defendant signing same) for the amount of (amount of insurance issued), if and when issued and assigned to California Cooperative Producers, said producer hereby extends his credit to California Cooperative Producers in the amount of a certain promissory note of even date herewith in the principal sum of $_ _ (amount of note executed, and sued for herein) made by said producer in favor of said California Cooperative Producers.’ The notes involved were executed in 1927 as a part of the transaction by appellants and were noninterest bearing negotiable instruments payable in annual installments. The principal of the notes was arrived at by an estimate of the annual produce to be delivered by the producer and maker of the note to the corporation.
On April 17, 1928, the corporation pledged the notes to plaintiffs, together with others, as security for the payment of a note for $5,000 in which the corporation was maker and plaintiffs payees.
The first installment on appellants' notes was due on January 2, 1928. (The transfer to plaintiffs, as noted, was April 17, 1928.) The court found that the corporation entered credits on its books against the appellants' notes on August 31, 1928, in the amount of the first installment, and in that connection, that the credits were made after appellants knew of the transfer to plaintiffs and without consent of plaintiffs. The court also found that while the plaintiffs were not holders in due course because one installment of the notes was past due on their face at the time of the transfer, plaintiffs were purchasers in good faith and without notice of any defense of appellants; that the corporation had, when the first installment matured, in its possession property, money and credits belonging to appellants sufficient to pay the first installment. The corporation became a voluntary bankrupt on September 5, 1930.
Appellants' defenses were failure of consideration and fraud. The court found that the appellants ratified and confirmed the note given by the corporation to plaintiffs, and the pledging of their notes for security, and waived, and are estopped to rely upon the alleged fraud or failure of consideration. Further, that some of the asserted fraudulent statements made to appellants were as to prospective matters rather than existing facts and were not made with intent not to perform them.
On the issue of whether or not the transferee of a negotiable installment note taken after the maturity of one or more but less than all of the installments, is a holder in due course, reference must first be made to the negotiable instruments law as embodied in our statutes: ‘A holder in due course is a holder who has taken the instrument under the following conditions: (1) * * * (2) That he became the holder of it before it was overdue, and without notice that it had been previously dishonored, if such was the fact; * * *.’ Civ.Code, s 3133. ‘The instrument is dishonored by nonpayment when (1) * * * (2) Presentment is excused and the instrument is overdue and unpaid.’ Civ.Code, s 3164. The general rule has been stated repeatedly both under the negotiable instruments law and the common law that the transferee of an installment note is not a holder in due course as to any part of the note when the transfer has been made after the maturity of one or more but less than all of the installments. Cases in which uniform negotiable instruments law not mentioned: Hall v. E. W. Wells & Son, 24 Cal.App. 238, 141 P. 53; Archibald Hardware Co. v. Gifford, 44 Ga.App. 837, 163 S.E. 254; General Motors Acceptance Corporation v. Talbott, 39 Idaho 707, 230 P. 30; Vinton v. King, 4 Allen, Mass., 562; McCorkle v. Miller, 64 Mo.App. 153; turns on lack of payment, Shadman v. O'Brien, 278 Mass. 579, 180 N.E. 532; Norwood v. Leeves, Tex.Civ.App., 115 S.W. 53; First Nat. Bank v. Forsyth, 67 Minn. 257, 69 N.W. 909, 64 Am.St.Rep. 415; cases decided under the uniform negotiable instruments law: Hibbard v. Collins, 127 Me. 383, 143 A. 600; City of New Port Richey v. Fidelity & Deposit Co., 105 F.2d 348, 123 A.L.R. 1352; United States v. Capen, D.C., 55 F.Supp. 81. And the same rule has been applied where the instruments transferred are a part of a series of notes given by the maker in the same transaction and the taker knows that the notes are a part of a series. Under the uniform negotiable instruments law: Beasley Hardware Co. v. Stevens, 42 Ga.App. 114, 155 S.E. 67; Reconstruction Finance Corporation v. Smith, tex.Civ.App., 96 S.W.2d 824; Hobart M. Cable Co. v. Bruce, 135 Okl. 170, 274 P. 665, 64 A.L.R. 457; Little v. Shields, Tex.Com.App., 63 S.W.2d 363; contra: Hobart M. Cable Co. v. Bruce, 135 Okl. 170, 274 P. 665, 64 A.L.R. 451; uniform negotiable instruments law not mentioned: Iowa City State Bank v. Friar, Tex.Civ.App., 167 S.W. 261; First Nat. Bank at East St. Louis v. Street Imp. Dist., No. 326, D.C. 48 F.Supp. 225; Stegemann v. Emery, 108 Fla. 672, 146 So. 650. But it has been held that a transferee after interest on the note is overduce is a holder in due course unless there is a self-executing acceleration clause. See cases collected: Merchants Nat. Bank v. Smith, 110 S.C. 458, 96 S.E. 690, 11 A.L.R. 1277; Barbour v. Finke, 47 S.D. 644, 201 N.W. 711, 40 A.L.R. 832; Daniels on Negotiable Instruments (7th ed.), vol. 2, s 910; Brannan's Negotiable Instruments Law (6th ed.), p. 567; 10 C.J.S., Bills and Notes, s 312. The general rules on all those questions seem to be clear. See 10 C.J.S., Bills and Notes, s 312; Daniels on Negotiable Instruments (7th ed.), vol. 2, s 910; 44 Harv.L.Rev. 464; 40 Id. 634; 8 Am.Jur., Bills and Notes, s 432; Hobart M. Cable Co. v. Bruce, 135 Okl. 170, 274 P. 665, 64 A.L.R. 457. It might appear that there should logically be no distinction between overdue interest and overdue installments of principal but the former has been treated as a mere incident of the debt and not a part of the principal. Hence it cannot be said that the note the principal or any part thereof, is overdue when the interest is past due. In any event, that issue need not now be determined.
Some of the authorities heretofore cited appear to make pivotal the question of whether or not the case involved a situation where the installment had not in fact been paid at the time of the transfer. The argument being advanced that if the installment has in fact been paid, nothing appearing on the note to indicate one way or the other, the transferee may be a holder in due course although the note was indorsed to him after the due date of the installment specified on the face of the note. (In the instant case one of the issues presented is whether the installment had been paid when the notes were indorsed to plaintiffs, which involves the question of credits alleged to be owing to the makers-appellants from the payee-corporation when the installment fell due.) However, most of the authorities do not discuss or make a point of whether or not the installment has actually been paid and we believe the better rule to be that a transferee of an installment note which is transferred after the date fixed in the note for the payment of one or more installments is not a holder in due course as to any part of the note regardless of whether or not the past due installments have been paid. It most certainly would be true that he is not a holder in due course if the installment is unpaid and also if the note on its face showed that it was unpaid. The loss of defenses occurring where negotiable instruments are involved is a harsh one from the standpoint of the maker, and is justified only by the policy favoring facile commerce therein. The uniform negotiable instruments law and the law merchant before it are largely mechanical and highly technical rules of thumb and the essence of the various rules involved is the appearance on the face of things the surface view the face of the note etc. Extraneous and collateral matters are ignored. Therefore, we must look to the face of the instrument and when we find that the date has passed which is fixed by the instrument for its payment, no further inquiry need be made. It is past maturity paper and a transferee cannot be a holder in due course.
The foregoing views are in harmony with the negotiable instruments law. It will be noted from the above quoted statute (Civ.Code, s 3133) that the holder to be a holder in due course must have taken the instrument before it was overdue and without notice of dishonor if it had been dishonored. We are here concerned only with the ‘overdue’ factor. It must mean overdue on its face, that is, the date fixed for the payment of an installment has passed. Hence it follows that appellants were entitled to urge against plaintiffs all defenses that would have been available if the transfer of the notes had been a mere assignment instead of a negotiation to a holder in due course of a negotiable instrument.
Turning to appellants' defenses, the court found that the corporation and its officers were the agents of appellants in the marketing of their products. The stock of the corporation was to be issued to associations of producers. The corporation was ‘in effect owned’ by the associations of which appellants were members. The notes executed by appellants were a part of the same transaction in which they executed the marketing and association contracts. The interest on the $5,000 note delivered to plaintiffs by the corporation was paid until July 17, 1930, but none of the principal was paid although $4,000 of it became due before that date. On the issue of appellants' defense of failure of consideration or failure by the corporation to perform under the marketing contract, it appears that the corporation failed to pay the premiums on the insurance policies after July, 1930; that because of its insolvency it has failed to and could not since then pay such premiums or process, manufacture or market appellants' products. Failure of consideration is a good defense to an action on a negotiable instrument by one not a holder in due course. Civ.Code, s 3109. Failure of consideration is the failure to execute a promise, the performance of which has been exchanged for performance by the other party. Among other situations, the failure may arise from the wilful breach of the promise. And in a bilateral contract, such failure of consideration is a defense to an action for a breach of the contract inasmuch as it is contemplated that the performance of the unilateral promises shall be in exchange for each other, the performance being considered as equivalent in value. It is said in Bray v. Lowery, 163 Cal. 256, 260, 124 P. 1004, 1005; ‘This case therefore comes within the rule stated in Richter v. Union Land & Stock Co., 129 Cal. (367), 372, 62 P. (39), 40, as follows: ‘In all executory contracts the several obligations of the parties constitute to each, reciprocally, the consideration of the contract; and a failure to perform constitutes a failure of consideration either partial or total, as the case may be within the meaning of section 1689 of the Civil Code.’ See, also, Sterling v. Gregory, 149 Cal. (117), 121, 85 P. 305, and Cleary v. Folger, 84 Cal. 316, 24 P. 280, 18 Am.St.Rep. 187.' See, also, Mulborn v. Montezuma Imp. Co., 69 Cal.App. 621, 628, 232 P. 162; Rest., Contracts, s 266 et seq.; Williston on Contracts (rev. ed.), vol. 3, ss 813-814. In the instant case, although there was no express promise in the marketing contract on the part of the corporation to process and market appellants-producers' products nor a fixed time during which the producers agreed to deliver their products to the corporation, we believe it may fairly be implied that the promises in that connection were to run for at least 10 years inasmuch as the notes were payable in 10 annual installments. It will be noted from the heretofore quoted paragraph from said contract, that in order to assist in the marketing and processing of the products, and in further consideration of the payment by the corporation of the premiums on the insurance policies, the notes were given. They were given as an extension of credit to the corporation, implying that the corporation was to continue its activities and maintain the insurance policies in return for the continuation of the extension of credit by the notes which were payable. not in a lump sum, but in 10 annual installments. The court found that the notes were executed for the purposes mentioned in the marketing contracts and ‘at the same time and as a part of the respective transactions.’ The court also found that from 1927 to 1930 pursuant to the marketing contracts appellants delivered their products to the corporation and the corporation entered credits on its books as payments on the notes, indicating that the continued operation of the corporation was exchanged for the payment of the promissory notes. A further indication of the reciprocal nature of the promise in the notes and that of the corporation appears from the following clause in the marketing contracts: ‘The release of the producer from delivering his said products or any part thereof in accordance with said Manufacturing and Marketing agreement, or a failure on his part so to deliver his said products or any part thereof, shall not release the maker from any portion of his liability under said promissory note.’ (Emphasis added.) The producers were obligated on the note even if they violated their agreement to deliver their produce. It necessarily follows that if they did deliver their products and were able and willing to do so in the future, the corporation was under an equal obligation to continue to receive, process and market it as long as the installments on the notes continued to become due.
The breach of the marketing contracts consisted of the failure after 1930 to handle appellants' products and maintain the insurance policies in force arising from the voluntary bankruptcy of the corporation in that year rendering it incapable of further performance. The insolvency of a promisor in a bilateral continuing contracts is tantamount to a breach of the contract by him. Caminetti v. Pacific Mut. Life Ins. Co., 23 Cal.2d 94, 142 P.2d 741; Central Trust Co. of Illinois v. Chicago Auditorium Assn., 240 U.S. 581, 36 S.Ct. 412, 60 L.Ed. 811.
Plaintiffs urge that the asserted failure of consideration did not occur until after appellants had notice of the transfer or their notes to plaintiffs and thus the failure of consideration is not a defense. The general rule is that an assignee of a chose in action is subject to all equities and defenses existing at or before the notice of the assignment. (Civ.Code, s 1459; Code Civ.Proc. s 368; 3 Cal.Jur. 286-289). But where there is a failure of consideration under a bilateral contract consisting of a breach by the assignor, such failure is a good defense to an action by the assignee whether it occurred before or after the notice of assignment. It is said: ‘On the other hand, payment to the assignor or other defenses acquired by the debtor against the assignor after notice of the assignment are invalid, unless the defense, though acquired after notice, is based on a right of the defendant inherent in the contract by its terms. Thus if payments under an executory contract are assigned, the debtor may set up failure of the assignor to fulfill his part of the contract though such failure occurs after notice of the assignment, for the assignor cannot give another a larger right than he has himself; * * *’ (Emphasis added.) Williston on Contracts, Rev.Ed., vol. 2, s 433. In Stern v. Sunset Road Oil Co., 47 Cal.App. 334, 190 P. 651, the court held that recoupment was available to the debtor against the assignee although the breach of the contract by the assignor occurred after notice of the assignment. See, also, Pacific Rolling Mill Co. v. English, 118 Cal. 123, 50 P. 383; Rest., Contracts, ss 161, 167(1), illus. 3. Plaintiffs refer to the statement in 19 California Jurisprudence, page 1002 that: ‘A failure of consideration in whole or in part after the transfer of an instrument to a bona fide holder is no defense in a suit by such holder, notwithstanding his full knowledge of the original consideration for which the paper was given.’ The cases cited for that proposition (Flood v. Petry, 165 Cal. 309, 132 P. 256, 46 L.R.A.,N.S., 861; Bank of Ukiah v. Gibson, 109 Cal. 197, 41 P. 1008; Splivallo v. Patten, 38 Cal. 138, 99 Am.Dec. 358; Pratt v. Dittmer, 51 Cal.App. 512, 197 P. 365; First Nat. Bank v. Fickert, 51 Cal.App. 99, 196 P. 112) concern situations where a negotiable note given as a part of a contract transaction was transferred before maturity to a bona fide purchaser in the regular course of business. In other words, the transferee was a holder in due course. The court merely held that the knowledge of the transferee that the note was given as consideration for an executory promise in the contract but without notice that the promise had not been performed, was insufficient to destroy his status as a holder in due course. In the instant case, as we have seen, plaintiffs were not holders in due course for they were transferees after maturity. Hence their lack of that status is not dependent upon actual notice of equities in favor of appellants. The general rule has been repeatedly stated that an assignee of a note who is not a holder in due course takes subject to all defenses that would be available against the assignor, one of such defenses being failure of consideration.
Plaintiffs contend that there was no failure of consideration when the notes were pledged to them. (That, as we have seen, is immaterial.) And, further, that appellants have enjoyed the fruits of the marketing contract with the corporation and hence are estopped to raise the defense of failure of consideration. The failure of consideration was, as above shown, the failure and inability after insolvency of the corporation to continue to accept, process and market appellants' products and maintain the life insurance policies in effect. In this connection the court found:
‘That on or about the 21st day of May, 1928, (appellants) became aware of the transfer of their respective notes * * * to plaintiffs, * * *; that said (corporation) was declared a bankrupt on its voluntary petition September 5th, 1930; that during the whole time between said dates, (appellants) continued as members of said corporation and said producers associations (the associations who were stockholders in the corporation) and delivered and marketed their products through said corporation, enjoyed and received the benefits of the insurance on their respective lives, the premiums on which insurance were paid by the corporation; accepted and retained the benefits of the money borrowed from plaintiffs (the $5,000 borrowed by the corporation for which appellants' notes were pledged as security), which money was used in the processing and marketing of the products of (appellants), as above recited, and all other benefits of their membership in and affiliation with said (corporation) and said Growers Associations, but they never at any time repudiated or rescinded or attempted to rescind the said transactions between themselves and said corporation or between said corporations and plaintiffs herein.
‘* * * That (appellants), by the execution of said * * * Marketing (contract) * * * by the execution of said notes, and by delivering the same to said corporation for the purpose of extending to it their credit in the amount of said notes, thereby enabling said corporation to borrow said $5,000 from plaintiffs; by the receipt of the benefits of life insurance on their respective lives, and the benefits of said loan by plaintiffs to said defendant corporation, and by all other benefits provided in said * * * Marketing (contract); and by continuing as members of said corporation after the borrowing of said money as aforesaid, and after they had knowledge of the borrowing of said money as aforesaid, and after having knowledge of the transfer of their said notes as security therefor, and all of the other matters and things herein found to be true, said (appellants), retified the acts of said corporation in borrowing said money from plaintiffs, and transferring said notes to plaintiffs as security for its repayment; and they are by their said acts and conduct, and by the benefits they received as herein found, estopped from setting up any defense to this action on the ground of any alleged fraud * * *, or from making any other defense thereto, * * * and that by their said acts and conduct as herein found, said defendants waived any and all rights that they may or might have had to set up any defense to this action on the ground of any alleged fraud practiced by their said agent, California Cooperative Producers, or its agent, or from making any other defenses thereto, as to the matters hereinabove found.’ We do not find any estoppel or reason springing from the foregoing circumstances which prevent appellants defending on the ground of failure of consideration. The awareness on their part of the pledge of their notes to secure the payment of the $5,000 did not impose upon them any duty with respect to the assignees. They could assume that inasmuch as the assignees had no greater rights than, and were subject to the same defenses as the corporation-assignor, they would govern their acts and protect themselves accordingly. Certainly, they continued as members of the associations, which were stockholders in the corporation, and delivered their products to the corporation. They were bound to do that under the marketing and association contracts and were privileged to assume that the corporation would continue its performance and that the plaintiffs-assignees would be subject to the defenses arising from the failure of the corporation-assignor to perform. Appellants did receive the benefits of the marketing contracts prior to insolvency but they were entitled to receive them under those contracts. Plaintiffs cite Maddock v. Russell, 109 Cal. 417, 42 P. 139, and Rohrbacher v. Kleebauer, 119 Cal. 260, 51 P. 341, for the proposition that appellants cannot complain because they have enjoyed the fruits of the contracts. Those cases are not in point inas much as the contracts here involved are the marketing contracts and the failure of consideration therein as above stated. The corporation has been unable to perform since 1930. Appellants did not rescind the contracts. They had no grounds for doing so insofar as failure of consideration is concerned. There was no failure of consideration until the insolvency of the corporation. Appellants did nothing to mislead plaintiffs. It is not found that they promised to pay the $5,000 the corporation borrowed or to pay to plaintiffs the notes executed by them. Prior to the insolvency they did not waive the defense of failure of consideration. It had not failed as yet and there is nothing to indicate that they did so as to a future possibility of a breach by the corporation.
Running through the above quoted finding of the court is an undercurrent intimating that the corporation was the alter ego of the appellants-producers and the association to which they belonged; that the insolvency was their act; and, that hence the $5,000 note was really their note. The court also found that the corporation ‘was in effect owned by said ‘Producers Associations' composed of the fruit growers, the latter constituting the membership of the ‘Producers Associations', and these fruit growers were also directly connected with the California Cooperative Producers by the Financing, Manufacturing and Marketing agreement executed by each of them.’ And that ‘said corporation and its officers were agents of (appellants) in the marketing of their products.’ We see no basis for disregarding the corporate entity. It was not a nonstock, nonprofit cooperative corporation. It was one in which persons other than stockholders could share in the profits. Accepting the agency relationship the marketing contracts were still binding and the corporation-agent was obligated to perform thereunder. The borrowing of the $5,000 by the corporation from plaintiffs was on its own liability, not on that of the members. If that were not so, we would be disregarding the corporate entity, and the action would have been on the $5,000 note rather than the pledged notes. The corporation was the agent of appellants in the sense that it was a processing and marketing agent for the producers. It is true that appellant Galbreath became a director of the corporation after the $5,000 note was given and appellants' notes were pledged but that still does not prevent him from asserting failure of consideration under a contract he had with the corporation. It was still a corporate entity. There is no finding that the voluntary bankruptcy of the corporation was not in good faith. As far as appears no other course was open. Indeed on the subject of disregarding the corporate entity, plaintiffs state in their brief: ‘Plaintiffs have not at any time contended that the Cooperative was in law the alter ego of Appellants.
‘It should also be borne in mind that this is not an action to enforce shareholders' liability, although a number of the statements in the opening brief might lead the casual reader to so believe. As appellants have stated, it had already been decided that the shareholders were liable on the Corporation note here involved; but they have not met that obligation. This is an action upon promissory notes executed by Appellants to the California Cooperative Producers and by that organization pledged to the Plaintiffs and Respondents. By reason of the nature of the defenses interposed by the Defendants, it has become necessary to show that they were so closely related to the Cooperative that they cannot escape liability on those notes by the defenses relied upon.’
For the foregoing reasons the judgment is reversed.
I dissent. In my opinion plaintiffs are holders in due course and of the notes in question and as such ‘free from defenses available to prior parties among themselves, and may enforce payment * * * against all parties liable thereon.’ Civ.Code, s 3138, N.I.L. s 57.
The majority opinion holds that one who acquires an installment note after the maturity date of the first installment cannot become a holder in due course even if that installment has been duly paid. This holding renders nonnegotiable many instruments heretofore regarded as negotiable, and prevents persons from creating an instrument payable in installments that will remain negotiable during the entire period for which a loan is made. If for example, as is common in real estate transactions, a loan for a sum to be repaid in monthly installments has been made for a period of 10 years, an installment note covering the loan would become nonnegotiable after the first month. The loan would not continue to be covered by negotiable instruments, unless 120 separate notes were executed corresponding to the installments called for under the loan agreement. In my opinion the provisions of the negotiable instruments law not only do not compel but preclude the obstruction to common commercial transactions entailed by the construction of those provisions by the majority opinion. The negotiable instruments law makes no distinction as to transfers of an installment note before and after the maturity date of the first installment. After setting forth the requirements of a negotiable instrument (Civ.Code, s 3082, N.I.L. s 1), including the requirement that it must contain an unconditional promise to pay a sum certain in money, it makes clear its intention that an instrument payable in installments may be negotiable by providing that ‘The sum payable is a sum certain within the meaning of this act, although it is to be paid * * * (2) By stated installments; or (3) By stated installments, with a provision that upon default in payment of any installment or of interest, the whole shall become due.’ Civ.Code, s 3083, N.I.L. s 2.
No case has been found to support the doctrine of the majority opinion that a note ceases to be negotiable after the due date of the first installment even though that installment has been duly paid. All the cases cited were concerned with installment instruments that had become dishonored by failure to pay one or more matured installments. The issue in these cases was not whether, as the majority opinion assumes, the entire instrument became overdue after one of the installments matured, but whether the dishonor of the instrument because of the nonpayment of one installment prevented a later holder from becoming a holder in due course. The question whether the transferee had notice of the maker's failure to pay any previous installment was not considered except in United States v. Capen, D.C., 55 F.Supp. 81 which recognized that notice was required to prevent the transferee from being a holder in due course. See, also, City of New Port Richey v. Fidelity & Deposit Co., 5 Cir., 105 F.2d 348, 352. If such notice is not required, and the transferee is prevented from being a holder in due course solely by the fact that a previously matured installment is unpaid at the time of the transfer of the note, the decision in the present case would turn on the question whether the first installment was paid when plaintiffs acquired the notes. In my opinion, however, the fact that a previously matured installment is unpaid does not prevent a transferee from being a holder in due course as to subsequent installments unless he had notice of the nonpayment of the previous installment when he acquired the note.
To be a holder in due course a holder must have taken the instrument under the following conditions: ‘(1) That it is complete and regular upon its face; (2) That he became the holder of it before it was overdue, and without notice that it had been previously dishonored, if such was the fact; (3) That he took it in good faith and for value; (4) That at the time it was negotiated to him he had no notice of any infirmity in the instrument or defect in the title of the person negotiating it.’ Civ.Code, s 3133, N.I.L. s 52, italics added. The issue in the present case is whether the plaintiffs have met the second of these conditions; no question is raised as to the others. Plaintiffs are therefore holders in due course if they (a) acquired the notes before they were overdue and (b) without notice of any previous dishonor.
An installment note is of course overdue as to installments due before the date of the transfer, and as to such installments a transferee cannot therefore be a holder in due course. On the other hand, the fact that the maturity date of one or more installments has passed cannot make the instrument overdue as to installments payable in the future in the absence of the operation of an acceleration clause. The question then arises whether, even though the instrument is not overdue as to such installments, the taker is put on inquiry and regarded as having constructive notice that the instrument was previously dishonored because the transfer occurred after the due date of a previous installment. One who acquires a note payable in its entirety after its due date is not a holder in due course, for it appears on the face of the note that it should have been paid and discharged and withdrawn from circulation. If such a note is paid, the payment bars its collection; if it is unpaid and circulated after maturity the likelihood is that it is subject to another defense. Although the circulation of such an overdue instrument ‘does not give the indorsee notice of any specific matter of defense * * * yet it puts him on inquiry.’ Shaw, C. J. in Fisher v. Leland, 4 Cush., Mass., 456, 458, 50 Am.Dec. 805; Morgan v. United States, 113 U.S. 476, 496, 500, 5 S.Ct. 588, 28 L.Ed. 1044. If a note is payable in installments, however, circulation of the instrument after the due date of any installment except the last does not serve as a warning that the installment has not been paid and that the maker may have a defense, for the instrument was made to circulate until the maturity date of the last installment. The fact that it thus circulates does not put a transferee thereof on inquiry. Nor must the transferee of such an instrument expect to find a dated receipt on the note for each installment paid. The negotiable instruments law does not provide for such notations, and in any event they could be placed on the instrument by the transferor even though the installment had not in fact been paid. In the absence of any warning, the holder of such a note who takes it after the maturity date of any installment except the last has no reason to assume that installments that matured at a previous date have not been paid; he can assume that the ordinary course of business has been followed (Code Civ.Proc. s 1963(20) and that previous installments have been paid. His situation is similar to that of a holder of a note providing for the payment of installments of interest who acquires the note after the due date of one or more such installments. In many instances notes call for combined installments of principal and interest, and there is no more reason to deprive a holder of the rights of a holder in due course when he acquires a note without notice of a default in an installment of principal than there is when he acquires a note without notice of a default in an installment of interest. The able discussion by the Supreme Court of Canada in Union Investment Company v. Wells, 39 Canadian Sup.Ct. 625, 635, with respect to a transfer after default in an installment of interest applies with equal force to a transfer after default in an installment of principal: ‘it is not argued here that the fact of the time fixed for the payment of interest being passed when the note was negotiated was in itself a circumstance of suspicion * * *; that would lead to a conclusion which nobody accepts, viz.; that whether the interest be in default or not in default the moment the date fixed for such payment is past the instrument is overdue within the rule. What then is the circumstance of suspicion? The failure to meet the obligation to pay? But that does not appear on the face of the instrument. And obviously the failure to pay the interest can be regarded as such a circumstance only on the hypothesis that the law imposes upon the person taking such an instrument after the time for such a payment is passed the duty to inquire whether the payment has been made; and not only that, but to ascertain at his peril whether it has been made. I own it seems to one to be abundantly clear that an instrument the negotiation of which is regulated by such a rule of law is not in the full sense of the term a negotiable instrument that is to say, it is not negotiable as the commercial currency of the country is generally; and in particular, it is not negotiable as bills of exchange and promissory notes before maturity are negotiable. Consider the position, in this view, of an intending taker. If there has been a default he can acquire only such a title as his transferor can give him; and if (as must often happen) it should be impossible to ascertain this with certainty he would (obviously) be put upon an investigation of the title of his transferor. But it is the absence of the necessity of such an investigation which is the very thing that distinguishes current negotiable instruments from other classes of personal property; a distinction, as we have seen, the result of commercial necessity which requires that such instruments when taken in the ordinary course of business may, as regards title, be taken with absolute confidence and without any of the doubt and suspicion which must follow the adoption of the rule contended for in cases to which it applies.’
The holding has been adopted in other cases that if an installment of interest has fallen due and is unpaid a taker of the instrument without notice is not prevented from becoming a holder in due course. See cases collected in Merchants Nat. Bank v. Smith, 110 S.C. 458, 96 S.E. 690, 11 A.L.R. 1277; Barbour v. Finke, 47 S.D. 644, 201 N.W. 711, 40 A.L.R. 832; Brannan's Negotiable Instrument Law (6th ed.) 567; 2 Paton's Digest 1976. Similarly, the holder of a note, the principal of which is payable in installments, cannot be prevented from obtaining the rights of a holder in due course as to future installments in absence of notice of nonpayment of a previously matured installment, for he is not put on inquiry as to matters that do not appear on the face of the instrument and as to which the circulation of the instrument is not a warning. To hold that any transferee of such an instrument must ascertain at his peril whether the previous installments have been paid would mean, as it would in the case of the nonpayment of an installment of a negotiable instrument lege of a holder of a negotiable instrument to be free from a duty to inquire into the relations between previous parties to the instrument would be denied the holder of an instrument that is payable in installments.
The governing rule has been stated in United States v. Capen, D.C., 55 F.Supp. 81, 83: ‘Where the principal of a note is payable in installments and one installment is overdue and unpaid at the time of the transfer of the note, the transferee is not a holder before maturity and hence is not a holder in due course, unless he does not take with notice of the past-due installment.’ (Italics added.) Similarly in City of New Port Richey v. Fidelity & Deposit Co., 5 Cir., 105 F.2d 348, 352, 123 A.L.R. 1352 it was stated that ‘default in an instalment of principal known to the indorsee prevents his taking the paper as to unmatured installments free from defenses.’ Italics added; see 10 C.J.S., Bills and Notes, s 313, p. 800. This rule is in conformity with Civil Code section 3133(2) N.I.L. s 52(2) providing that one is a holder in due course if he took the instrument ‘before it was overdue, and without notice that it had been previously dishonored, if such was the fact.’ (Italics added.) It has been held that an instrument is dishonored by nonpayment of an installment of interest (see cases cited in Merchants Nat. Bank v. Smith, 110 S.C. 458, 96 S.E. 690, 11 A.L.R. 1277, 1280); a fortiori it is dishonored by nonpayment of an installment of principal. The statute is specific, however, in requiring notice of dishonor to prevent a transferee from being a holder in due course. Thus, if a demand note is not paid upon demand, one who acquires it within a reasonable time after it has been issued is a holder in due course in absence of notice that upon demand payment was not made. See Britton, Bills and Notes, s 121; see, also, 2 Pation's Digest 1976. Since the statute now requires notice of dishonor to prevent a holder's being a holder in dur course, authorities under the former law, which did not require such notice, do not control. It must be concluded, therefore, that in the absence of notice, the holder of a negotiable instrument is a holder in due course as to installments due after he became a holder even though the instrument was dishonored by a default in payment of a previous installment.
Knowledge by plaintiffs of the alleged nonpayment of the first installment was not set up in defendant's pleadings or found by the trial court. Nor does notice of dishonor follow from the fact that years later, when plaintiffs as pledgees of the notes brought action on them, they included the first installment in their complaint. Although plaintiffs inquired into the relation between the payee, their indorser, and the makers of the notes before they brought action on the notes pledged to them, their status as holders in due course can be affected only by notice at the time the notes were negotiated to them.
GIBSON, C. J., and SHENK and SCHAUER, JJ., concurred.
Response sent, thank you
A free source of state and federal court opinions, state laws, and the United States Code. For more information about the legal concepts addressed by these cases and statutes visit FindLaw's Learn About the Law.
Docket No: Sac. 5729.
Decided: August 27, 1946
Court: Supreme Court of California, in Bank.
Search our directory by legal issue
Enter information in one or both fields (Required)
FindLaw for Legal Professionals
Search our directory by legal issue
Enter information in one or both fields (Required)