Holder In Due Course

We took our Payment Systems final last night. While I didn't ace it, I wasn't surprised by it either, so I knew what to answer, if not necessarily *how* to answer.

One of the major themes in Payment Systems was the theory of a Holder in Due Course (HDC). An HDC is a person (or bank, corporation, etc.) who takes a negotiable instrument (such as a check) for transfer in exchange for some sort of value (e.g. money) and who takes it free of any defenses on the instrument itself that could be asserted by the maker of the instrument.

Here's how I did the analysis:

First - Identify the Parties.
Who made the instrument? On what bank is it payable? To whom is it payable initially? To whom is it payable now?

Second - Is the holder of the instrument a Person Entitled to Enforce the Instrument?
A "Person Entitled to Enforce" is 1. A holder, 2. Of an instrument in bearer or Order form, if it is the person identified in the order.

Third - What is the liability? How is the aggrieved party liable?
A party can either be Primarily liable or Secondarily liable. One is Primarily Liable if he is either the Maker of the Instrument or an Acceptor (i.e. the bank that certifies the check). One is secondarily liable as either an indorser, a drawer, or as an Accommodation party.

Fourth - Are there any defenses?
What type of defenses are available to the party who is liable? There are personal defenses - fraud in the inducement, regular duress, lack of consideration, breach of warranty, and many other defenses. Additionally, there are what are known as Real defenses - these are issues that are so heinous that as a matter of public policy, we think that it is more important to protect the person harmed than the instrument itself. Real defenses include Fraud in the Factum, Infancy, Duress (serious duress), Illegality (that would render a contract VOID, not voidable), and incapacity. Additionally there are "article 3 defenses" - which fall under Article 3 of the UCC.

Fifth - is the holder of the instrument a Holder in Due Course?
To be a Holder in Due Course one must be:
1. A Holder
2. Of a Negotiable Instrument
An instrument (e.g. a check or a promissory note) is negotiable if it is:
A. An unconditional
B. Promise or Order
C. To pay a fixed amount of money
D. To Bearer or Person idetntified in the order
E. On demand or at a definite time
F. With no additional conditions attached.
3. With no irregularities on the face of the instrument (e.g. numbers crossed out and written over)
4. Taken for value
5. In good faith
Good faith requires: Honesty in fact and in keeping with reasonable commercial standards of fair dealing.
6. With no notice:
A. that it is overdue
B. of any defenses
C. Any claims in recoupment
D. That it is unauthorized

If all of the above, then the party qualifies as an HDC. As such, it would take free of all personal and article 3 defenses, but would take subject to any real defenses that could be asserted.
If All of the above are not met (for example you know it's got defenses), and you take the instrument, you are not a Holder in Due Course, but you may be entitled to HDC status under the Shelter Principle, where you knew of the deficiency, but did not benefit or take part in it.

The End.