In order to claim the peculiar advantages of the law merchant, the holder must be a holder in due course; that is, he must have acquired (1) paper complete and regular on its face, (2) for value, (3) in good faith, and (4) before the paper was overdue.
It is essential that all of these circumstances coexist to make one a holder in due course. They are discussed in order.
To constitute one a holder in due course the instrument must have been complete and regularly issued.
The instrument must have been complete and regular. This requirement is sometimes stated that it must have been acquired "in the regular course of business." The idea is that there must not be such incompletion or irregularity about the instrument when transferred as practically to give notice of something wrong.
One is not a holder in due course unless he has given value in consideration of the transfer.
A negotiable instrument may be the subject of a gift to the transferee, but in that event the defenses, if any, that could have been made against the transferor can be made against the transferee. But if the instrument has been acquired for value, and the other elements necessary to make one a holder in due course exist, certain of such defenses cannot be made against the present holder.
A holder has given value when he has actually parted with anything of value in the eyes of the law, that is, anything which he has a legal right to retain. We cannot say that it is synonymous with "consideration" because in the law of contracts an executory promise to part with something of value as well as the actual parting with value constitute a good consideration. But one has not given value, as an indorsee of negotiable paper until he has actually given what was agreed upon. The negotiable instruments law provides in such respect: "When the transferee receives notice of any infirmity in the instrument or defect in the title of the person negotiating the same before he has paid the full amount agreed to paid therefor, he will be deemed a holder in due course only to the extent of the amount theretofore paid by him."
Thus, A secures from B on fraudulent representations a note expressed to be payable in the sum of $500 and interest. A indorses this note to C for $500, $250 of which C pays to A and agrees to pay the other $250 in ten days. Before he has paid this second installment, he receives notice of the fraud. If he pays the other $250 to A it will be at his peril for B may set up the defense against C, except to defeat the $250 first paid.
Value need not be adequate. One is a purchaser for value if he give anything of value agreed by him to be given, though it be a sum of money much less than the face value of the instrument, and the giving of this will perfect his title to the instrument and give him a right to recover the face value thereof.
One is not a holder in due course unless he has received the Instrument in good faith.
It is somestimes said that a transferee is not a holder in due course unless he takes "without notice," but it describes the situation better to say he must be a taker in "good faith," or not in bad faith. It is now well settled, and the Negotiable Instruments Act expressly so provides, that one receiving commercial paper, giving value therefor, and receiving it before maturity is a holder in due course unless he have actual and not merely constructive notice of the defect of title or purchased under such circumstances that his act amounted to an exercise of bad faith. There was in some of the earlier decisions a test stated that he must not purchase under such circumstances that would put a reasonably prudent man on inquiry, but this test has been abandoned. One is not put to active diligence to discover the defect, even though the circumstances are a little suspicious provided he have no actual knowledge and buy in good faith.
If a note is sold for much less than its face value, that may be a circumstance going, with other circumstances, to show bad faith, but otherwise it is unimportant. That is, the mere fact that commercial paper is purchased for less than its face value, cannot deprive a holder of his rights as a holder in due course. Yet such facts as these, that the instrument was procurable at a large discount, though the maker was known to be solvent, or the paper was amply secured, or was purchased from a total stranger, might all be matters of evidence going to prove bad faith.
An overdue Instrument retains its negotiability, and may still be transferred as before maturity, yet a transferee thereof will take it subject to such defenses as existed against It In the hands of his transferor. To be a holder In due course he must have acquired it before It was overdue.
While maturity does not take from an instrument its negotiable character, still one is not a holder in due course unless he acquired it before it was overdue. That the instrument is overdue, puts him upon inquiry as to whether something is wrong that it has not been paid.
Demand paper is considered as overdue after it has remained out more than a reasonable time.
One who purchases from a holder in due course, takes the title of that holder, even though he has notice of a defense available against a holder prior to such holder in due course, and though he acquires the paper after maturity.
Where defenses that might have existed against a holder become no longer available to defeat suit on the instrument because such instrument has been transferred, the defect in title never again re-attaches though one purchases under such circumstances that had his transferor had a defective title, his also would have been defective.
Thus, A, through a fraud in the consideration, secured a negotiable promissory note from M. Before maturity A sold the note to B who paid value and who had no knowledge of the fraud, and purchased in good faith. Concede, therefore, that B acquired a good title, so that, if he had sued, the defense of the fraud could not have been made against him. B, however, indorsed to C who at the time of his purchase knew of the defense that could have been made against A. C gives no value and acquires the instrument after maturity. But this is immaterial; he acquires B's title, which was good. Had B's title been defective, C would have had to purchase for value, in good faith, and before the note was overdue. This is reasonable. The paper in B's hands must be paid. There is no reason therefore why its further negotiation should be restricted. If M must pay it to B, he might as well pay it to any one else to whom B indorses it.