Chapter 24 Negotiable Instruments, Credit, and Bankruptcy PowerPoint Slides to accompany The Legal Environment of Business and Online Commerce 4E, by Henry R. Cheeseman Chapter 24 Negotiable Instruments, Credit, and Bankruptcy Prentice Hall © 2005

Parties to a Check Drawer Customer who maintains the checking account and writes checks against the account Drawee The bank on which the check is drawn Payee The party to whom the check is written Prentice Hall © 2005

Electronic Funds Transfer Systems Automated teller machines Point-of-sale terminals Direct deposits and withdrawals Pay-by-telephone systems Prentice Hall © 2005

Special Types of Checks Certified checks Cashier’s checks Traveler’s checks Prentice Hall © 2005

Honoring Checks Stale checks Incomplete checks A check that has been outstanding for more than six months Incomplete checks Death or incompetence of the drawer Stop-payment orders An order by a drawer of a check to the payor bank not to pay or certify a check Overdrafts The amount of money a drawer owes a bank after it has paid a check despite insufficient funds in the drawer’s account Wrongful dishonor Occurs when there are sufficient funds in a drawer’s account to pay a properly payable check, but the bank does not pay the check Prentice Hall © 2005

Forged Signatures and Altered Checks Forged instrument Is wholly inoperative as the signature of the drawer Is not properly payable Altered check A check that has been altered without authorization that modifies the legal obligation of a party Prentice Hall © 2005

Check Collection Process Drawer issues a check to Payee drawn on Country Bank Payee deposits the check into his account at Metro Bank Metro Bank sends the check to City Bank for collection City Bank sends the check to Country Bank for collection Drawer has a checking account at Country Bank Prentice Hall © 2005

Final Settlement Occurs when the payor bank Pays the check in cash Settles for the check without having a right to revoke the settlement Fails to dishonor the check within certain statutory time periods Prentice Hall © 2005

“On Us” v. “On Them” Checks A check that is presented for payment where the depository bank is also the payor bank, i.e., the drawer and payee or holder have accounts at the same bank “On them” A check presented for payment by the payee or holder where the depository bank and payor bank are not the same bank Prentice Hall © 2005

“Four Legals” that Prevent Payment of a Check Receipt of a notice affecting the account Receipt of service or a court order of other legal process that freezes the customer’s account Receipt of a stop-payment order from the drawer Payor bank’s exercise of its right of setoff against the customer’s account Prentice Hall © 2005

Types of Credit Unsecured credit Secured credit Credit that does not require any security (collateral) to protect the payment of the debt Secured credit Credit that requires security (collateral) to secure payment of the loan Prentice Hall © 2005

Security Interests in Personal Property Common law lien Given to artisans, laborers, innkeepers, common carriers, and other service providers on personal property of customers to secure reasonable payment for services rendered Statutory lien A lien that codifies by statute a service provider’s common law lien Prentice Hall © 2005

Parties to a Mortgage Owner- Debtor Mortgagor Creditor Mortgagee Loan of funds Owner- Debtor Mortgagor Creditor Mortgagee Security interest in real property Prentice Hall © 2005

Parties to a Note and Deed of Trust Loan of funds Owner- Debtor Trustor Creditor Beneficiary Security interest in real property Legal title If default, can protect rights Trustee Prentice Hall © 2005

Right of Redemption The mortgagee has the right to redeem real property after default and before foreclosure Prentice Hall © 2005

Material Person’s Lien A contractor’s and laborer’s lien that makes the real property to which improvements are being made become security for the payment of the services and materials for those improvements Prentice Hall © 2005

Surety and Guaranty Arrangements Surety arrangement An arrangement where a third party promises to be primarily liable with the borrower for the payment of the borrower’s debt Guaranty arrangement An arrangement where a third party promises to be secondarily liable for the payment of another’s debt Prentice Hall © 2005

Collection Remedies Attachment Seizure by the creditor of property in the debtor’s possession in order to collect on a debt while their lawsuit is pending Execution Postjudgment seizure and sale of the debtor’s property to satisfy a creditor’s judgment against the debtor Garnishment Postjudgment remedy that is directed against property of the debtor that is in the possession of third persons Prentice Hall © 2005

Fresh Start in Bankruptcy The goal of federal bankruptcy law is to discharge the debtor from the burdensome debts and allow him or her to begin again Prentice Hall © 2005

Chapter 7 Bankruptcy Liquidation Debtor’s nonexempt property is sold for cash Cash is distributed to creditors Unpaid debts are discharged Any person, including individuals, partnerships, and corporations may be debtors in a Chapter 7 proceeding Debtor gets a fresh start Prentice Hall © 2005

Federal Exemptions from the Bankruptcy Estate Exemptions include: Homestead exemption—interest up to $15,000 in property used as a residence and burial plots Interest up to $2,400 for one motor vehicle Interest up to $400 per item for household goods Prentice Hall © 2005

Voidable Transfers The bankruptcy code prevents debtors from making unusual payments or transfers of property on the eve of bankruptcy that would unfairly benefit the debtor or some creditors at the expense of others Preferential transfers within 90 days before bankruptcy Preferential liens Preferential transfers to insiders Fraudulent transfers Prentice Hall © 2005

Priority of Creditors Secured creditors have priority over unsecured creditors Unsecured creditors claims are satisfied out of the bankruptcy estate in order of their statutory priority Prentice Hall © 2005

Nondischargeable Debts Nondischargeable debts include: Claims for taxes accrued within three years prior to bankruptcy filing Certain fines and penalties payable to federal, state, and local government units Alimony, maintenance, and child support Claims based on the consumer-debtor’s purchase of luxury goods of more than $1000 from a single creditor School loans Prentice Hall © 2005

Chapter 11 Bankruptcy Reorganization Reorganizes the debtor's financial affairs under the supervision of the Bankruptcy Court to give the debtor a new capital structure so that it will emerge from bankruptcy as a viable concern Available to individuals, partnerships, corporations, unincorporated associations, and railroads May be filed voluntarily by the debtor or involuntarily by its creditors Prentice Hall © 2005

Rejection of Collective Bargaining Agreements Companies that file for Chapter 11 reorganization sometimes argue that agreements with labor unions may be rejected in bankruptcy The U.S. Supreme Court has upheld the right of companies to reject contracts in bankruptcy if necessary for the successful rehabilitation of the debtor Prentice Hall © 2005

Confirmation Acceptance method Cram-down method The bankruptcy court must approve a plan of reorganization if The plan is in the best interests of each class of claims and interests The plan is feasible At least one class of claims votes to accept the plan Each class of claims and interests is nonimpaired Cram-down method A method of confirmation of a plan of reorganization where the court forces an impaired class to participate in the plan of reorganization Prentice Hall © 2005

Chapter 13 Bankruptcy Consumer Debt Adjustment Permits the courts to supervise the debtor’s plan for the payment of unpaid debts by installments Debtor retains more property than is exempt under Chapter 7 Less expensive and complicated than Chapter 7 Creditors may recover a greater percentage of debts than under Chapter 7 Prentice Hall © 2005

Chapter 12 Family Farmer Bankruptcy Chapter 12 allows family farmers to file for a special type of reorganization bankruptcy that gives them added protection not available under Chapter 11 of the Bankruptcy Code Prentice Hall © 2005