Chapter 8 Instruments of Payment

An instrument of payment is a written or printed paper by means of which funds are transferred from one person to another. In international trade, the most frequently-used means of payment include currencies and bills. Sellers of goods, in general, almost never insist on their rights to demand cash for payment, but readily take certain bills, such as bill of exchange （draft）, promissory note and cheque（check）for substitutes, among which draft is widely used.

8.1 Bills of Exchange（Draft）

8.1.1 Definition of Draft

Bills of exchange date from the fourth century BC and became popular in the eighteenth and nineteenth centuries as a means of financing expanding world trade. They are widely used in the money market.

According to The Bills of Exchange Act 1882 in the UK, a bill of exchange, also called a draft, is defined as“an unconditional order in writing, addressed by one person（drawer）to another（drawee）, signed by the person giving it, requiring the person to whom it is addressed to pay on demand, or at a fixed or determinable future time, a sum certain in money, to or to the order of a specified person, or to bearer”. In China, as it is stated in The Negotiable Instruments Law of the People's Republic of China, to simply put, a bill of exchange is a written order by the drawer to the drawee to pay money to the payee.

A bill of exchange is a useful instrument because it allows one party（the drawer）to direct another（the drawee）to pay money either to himself, to his agent, or to a third party. Of course, the order is valid only if the drawee has an underlying obligation to pay money to the drawer.

The operation process of draft includes: issuance, presentation, acceptance, payment, endorsement, dishonor and recourse. Drafts are negotiable instruments and may be sold.

8.1.2 Contents of Draft

（1）The words of“Bill of Exchange”or“Draft”are required to be on the draft, to distinguish from other paying instruments（Promissory Note, Cheque）, but it is not required in The Bills of Exchange Act.

（2）It is an unconditional pay order, with the unlimited payment, without proviso.

（3）A certain sum, which is indicated in Arabic numbers and words in a definite currency including the interest, not allowed to be described with ambiguous words and approximate sum.

（4）Drawer: the person who writes the order and gives directions to the person to make a specific payment of money. He is usually the exporter or his banker in import and export trade;usually, he is also a creditor of the drawee（namely debtee）.

（5）Drawee: the person to whom the order is addressed and who is to pay the money. He is usually the importer or the appointed bank under a letter of credit in import and export trade. In addition, when a time draft has been accepted by the drawee, he becomes an acceptor who is the same person as the drawee. The drawer and the acceptor must be different persons.

（6）Payee: the person（individual, firm, corporation, or bank）to whom the payment is ordered to be made. The drawer and payee may be often the same person. In this case, the bill may be worded“Pay to our order ×××”. The payee is usually the exporter himself or his appointed bank in import and export trade. The payee may also be the bearer of the bill. The payee may be the original payee in the bill, or may be some party to whom the original payee has transferred the instrument. If a bill with such instruction“Pay ××× Co. or order”or“Pay to the order of ××× Co.”, it means to pay to the payee or to anyone to whom he in turn directs payment to be made. In this way, the bill should be endorsed by the payee, now the endorser, and can be passed on to a new payee, the endorsed, thus making negotiable. A bill may have many numbers of endorsers.

（7）Payment Due Date

1）Payment Time Regulation

（a）Payable at sight: Payment at sight refers to that the payment is made by the payer at sight of the draft, and the due date is the day that the payee presents the draft to the payer.

（b）Payable ××× days after sight: The draft holder makes presentation of the draft to the payer, demanding the payer to accept the draft and make payment on the due date. The due date is confirmed according to the presentation date.

（c）Payable ××× days after issuance date: Payable within ××× days after the draft's issuance date.

（d）Payable 30 days after B/L date: Payable within 30 days after the B/L's issuance date.

（e）Fixed date: Payable on a fixed date.

2）Payment time stipulated in The Negotiable Instruments Law of the People's Republic of China

（a）Payable at sight.

（b）Payable on a fixed date.

（c）Payable on a fixed date after the draft is issued.

（d）Payable on a fixed date after the sight of the draft.

The time calculation: not including the sight date, the issuance date or B/L date. The draft is not recognized if the payment time is not definite or the conditions are attached to it. According to The Negotiable Instruments Law of the People's Republic of China, the draft without the specific payment time requirement will be regarded as being payable at sight.

（8）The Date and Place of Draft Issuance

The issuance date must be written on the draft so as to confirm the qualification of the drawer and calculate the payment date.

The place of draft issuance: written next to the date. It is necessary to write the issuance place in order to confirm the applicable law and complete the draft. According to The Negotiable Instruments Law of the People's Republic of China, the issuance place must be written on the draft, which can be the business operation place, the habitation, or the regular dwelling place of the drawer.

（9）Payment Place

It is written next to the name of the payer, namely the place of making payment against the draft. According to The Negotiable Instruments Law of the People's Republic of China, the payment place can be the business operation place, the habitation, or the regular dwelling place of the drawer in case that the specific payment place is not written on the draft.

（10）Signature of the Drawer

After signing the draft, the drawer is regarded as the main debtor and to be committed to the draft fulfillment. If the signature is fake or not authorized, the draft is invalid.

（11）Other Items May be Written on the Draft

The draft is issued in duplicate, the drawee makes payment against one draft, and then the other one is cancelled accordingly.

（12）In The Negotiable Instruments Law of the People's Republic of China, the draft is regarded as being invalid in case that the following items are not stated on the draft: 1）The word“draft”; 2）Unconditional appointment; 3）Definite sum; 4）Name of payer;5）Name of payee; 6）Draft issuance date; 7）Payment date.

8.1.3 Usage of Draft

A bill of exchange（draft）is an order to pay. It is made out by an exporter and presented to an importer, usually through a bank. It may be payable immediately on presentation（a sight or demand draft）, or so many days after presentation（a time draft）. In the latter case, the drawee writes“Accepted”across it and signs his name. The exporter can then get immediate payment by discounting the draft and supplying a letter of hypothecation. If a time draft is not honored at maturity, it will be noted and protested by a Notary Public, and represented the drawee. Such a draft, and the corresponding payment terms, “Documents against Acceptance”, obviously involve risk to the exporter or his bank.

（1）Issuance

Issuance means the drawer's action of drawing and giving out of a draft. Upon issuance, the drawer has a contingent liability on the bill until it matures as, in the event of default by the acceptor, the drawer is obliged to pay out the face value of the bill on its due date to the holder.

Issuance, which is made in the written form, is to fill up by the drawer the particulars in the bill of exchange on the date of drawing, the name of the drawee, the time and the place of the payment, the amount of the payment, etc. The draft is signed by the drawer and then sent to the payee. The issuance is regarded to be fulfilled only after the bill is sent to the drawee.

There are three kinds of ways to fill up the payee:

1）Restrictive payee, such as pay ××× only, pays ××× not transferable.

2）To order, such as pay ××× or Order or Pay to the Order of ×××. This type requires endorsement when transferable.

3）To bearer, such as pay bearer. This type requires no endorsement.

（2）Presentation

The act of taking the draft to the drawee and demanding that he make the payment or accept the draft is known as presentation. Usually two categories of presentations are used in practice. The first one is presentation for payment, that is, for a sight draft, payment should be made at the same time when the draft is presented to the payer by the draft holder. The second category is presentation for acceptance, which is for a time draft, the drawee is required to accept the draft and to pay on the maturity date when the draft is presented to him.

（3）Acceptance

It is a promise made by the payer that it will make payment against a time draft. The payer writes the word“acceptance”on the bill remarking the acceptance date and affixes its signature, then returns the bill to the draft holder. The payer is regarded as the acceptor after making acceptance for the draft. The first debtor of the draft is the drawer before making acceptance, and it changes into the payer after making acceptance while the drawer becomes the second debtor. Before the payer's acceptance, all the bearers are allowed to recourse to the drawer as the draft is transferable.

Legally, there are two key elements for the acceptance: a. The word of“Acceptance”must be written on the bill; b. The acceptance is not fulfilled until the draft with acceptance is sent back to the draft holder.

（4）Payment

Under a sight draft, the drawee is required to make the payment when the draft is presented to him while for a time draft, the drawee is required to accept the draft when the draft is presented to him and make the payment at the maturity of the draft. When paid, the draft is retained by the payer while the receipt is made and signed by the holder of the draft.

（5）Endorsement

The act of a payee, drawee, or holder of a draft lies in signing the back of the draft to transfer rights in the draft to another. The typical endorsement is discount of a draft, i.e., the bearer transfers a time and accepted draft to a bank or a discounting company, who, as a transferee, will deduct the interest as per discount rate and pay the remaining sum to the bearer. The payee appears as the first endorser on the reverse of the bill and this endorsement starts the chain of the ownership of the bill.

The bill of exchange is negotiable and transferable as the payee on most bills is to“to the order of ×××”. Negotiation and transfer is effected with endorsement. If the payee on the bill is to“to the bearer”, then negotiation and transfer is done with mere delivery of the bill. Endorsement is done when the payee has signed his name on the back of the bill with or without additional words conveying instructions or qualifying liability.

The endorsement of the draft includes two points: a. to make endorsement on the overleaf of the draft; b. to transfer the bill to the endorsee. These two points are both necessary for the fulfillment of the endorsement.

In the international market, the draft is a kind of transfer instrument, which is negotiable and transferable in the bill market. The endorsement is one legal procedure of transferring the bill, that is to say, the holder of draft signs its name on the back of the bill or adding the name of the bearer（endorsee）, and then transfers the draft to the bearer. After the endorsement, the claim for the payment is transferred to the bearer, too.

The draft can be transferred again and again after endorsements. For the endorsee, all the endorsers and the drawers are its remote holders; for the endorser, all the bearers after its endorsement and transferring are its subsequent parties. The remote holders are committed to the guaranty responsibility of the payment for the subsequent party.

Generally speaking, there are three main kinds of endorsements.

1）Restrictive Endorsement. The endorser may write clearly on the upper part of the signature on the back of the bill the endorsee with restrictive conditions. A restrictive endorsement is one which limits the bill for further negotiation, such as“Pay ××× only”or“Pay ××× nontransfer”. Once the bill is restrictively endorsed, it cannot be transferred any more.

2）Demonstrative Endorsement. A demonstrative endorsement is one which specifies the person to whom, or to whose order, the bill is to be payable, such as“Pay ××× or to order of”.

3）Blank Endorsement. A blank endorsement, or endorsement in blank, is one which specifies no payee. The effect of a blank endorsement is to make the bill payable to bearer and to make delivery and without additional endorsement. The bearer or holder of a bill so endorsed may sometimes be required, however, to place his endorsement upon it at the time of making a further negotiation.

（6）Dishonor

It is called the dishonor by non-acceptance or by non-payment in case that the bill is not accepted or not paid when the bill is presented by the bill holder for the acceptance. Dishonor also happens when the payer returns the bill, keeps away from the bill, dies, or is bankrupted.

The draft holder has the right of recourse in case that the draft is not accepted when it is presented within a reasonable time or it is not paid on the maturity date. The bill holder has the right to claim for the shipment documents or payment against the endorser and drawer.

（7）Recourse

Upon the dishonor, the bill holder has the right to claim for the settlement of the payment and the relevant charges against the prior endorser（or the drawer）.

To exercise the right of recourse, the bill holder shall present the protest or the certificate of dishonor. The protest is an official document made by the local notary public, bank, chamber of commerce or court testifying that the draft has been dishonored. It is the legal proof with which the bill holder can take the right of the recourse against the prior endorser. If the dishonored bill has been accepted, the bill holder can go to court claiming for the payment against the acceptor.

8.1.4 Types of Drafts

（1）Trade Drafts and Banker's Drafts

According to different drawers, the bills of exchange can be classified into trade drafts and banker's drafts. If the drawer is a trade concern, the draft is called a trade draft. It is often used in foreign trade finance. The draft is made out by the seller of one country（exporter）and presented to the importer or the payment bank. Usually, the draft is presented to the importer or the payment bank（L/C opening bank）through the bank in the exporter's place or the correspondent bank of it in the importer's place. The characteristics of the trade drafts are that while the drawer is a firm or an individual, the payer（the drawee）is a firm, an individual, or a bank. If the drawer is a bank and the draft is drawn by a bank, the draft is called a banker's draft. A banker's draft is sent to payee by remitter, with which the payee can exchange the money from the payer（the bank）. It is mainly used in remittance. The characteristics of a banker's draft are that both the drawer and the drawee are banks.

（2）Sight（or Demand）Drafts and Time（or Usance）Drafts

According to the time when the draft falls due, bills of exchange may be divided into sight （or demand）draft or a time（or usance）draft. A sight draft demands immediate payment by the drawee at the sight of the draft. In case of a time draft, the drawee is required to accept it first and pay it at a fixed or determinable future time, in other words, it requires acceptance before payment. The fixed or determinable future time may be a certain number of days after acceptance: a. At ××× days after sight, such as“thirty days after sight”or“sixty days after sight”; b. At ××× days after the date of draft, such as“ninety days after date of this draft”;c. at a fixed date in the future, such as“On May 12th,2006”.

（3）Clean Drafts and Documentary Drafts

In the transfer of the bill of exchange, if the bill of exchange is accompanied by shipment documents, it is a documentary draft, if not, it is a clean draft. In international trade, mostly it is the documentary draft that is used. The payment（for sight drafts）or acceptance（for time drafts）is required in order to obtain possession of those documents, which are in turn needed to obtain the merchandise involved in the transaction. Occasionally the clean draft is used to collect payment in small or sundry charges, such as commission, interest, sample fee and cash in advance, etc. When clean drafts are used in trade, the seller has usually sent the shipping documents directly to the buyer, who can obtain the possession of the goods independent of its payment（on a clean sight draft）or acceptance（on a clean time draft）. Multinational corporations frequently use clean draft when shipping to their affiliates because matters of trust and credit are not involved.

（4）Trade Acceptance Drafts and Banker's Acceptance Drafts

In time or usance trade drafts, when the drawer is a commercial firm and the drawee is another commercial firm, the draft after acceptance by the commercial firm or the drawee is called a trade acceptance draft; when the drawer is a commercial firm or bank and the drawee is a bank, the draft after acceptance by the bank or the drawee is called a banker's acceptance draft. In fact, the quality of a banker's acceptance draft is particularly identical to a marketable bank certificate of deposit. Thus, this kind of draft is more preferable and negotiable than trade acceptance draft and is more acceptable in the discount market.

8.2 Promissory Note

8.2.1 Definitions and Contents of Promissory Note

According to The Bills of Exchange Act 1882 of the United Kingdom, the promissory note is an unconditional promise in writing made by one person（the maker）to another（the payee） and signed by the maker engaging to pay on demand or at a fixed or determinable future time a sum certain in money to or to the order of a specified person or bearer.

In accordance with The Convention on the Unification of the Law Relating to Bills of Exchange and Promissory Notes, the promissory note shall include the following contents:1）The words of“promissory note”;2）Unconditional payment promises;3）The payee or the specified person by the payee;4）The drawer;5）The date and place of the issuance;6）A period for payment;7）A sum certain in money;8）The payment places.

According to The Negotiable Instruments Law of the People's Republic of China, the promissory note is the note issued by the drawer, promising to make unconditionally a definite sum of money to the payee or the note holder at sight of the note. It is stipulated in The Negotiable Instruments Law of the People's Republic of China that the promissory note is named as the bank promissory note, issued and signed by the central bank of China or other financial institutions. There are only bank promissory notes in China but no commercial promissory notes.

The key elements in the promissory note are as follows: 1）The words of“promissory note”;2）Unconditional payment promises; 3）A sum certain in money; 4）The name of payee;5）The issuance date;6）The signature of the drawer.

There are usually two involved parties to the promissory notes: the drawer and the payee. The payer of the promissory note is the drawer himself. The time promissory notes needn't the acceptance. Some banks issue the promissory note which is at sight, without stating the payee or the words of“to the order”. The kind of promissory note is equal to the currency circulated in the market.

8.2.2 Types of Promissory Note

Promissory notes can be sight promissory notes or time promissory notes. They can also be made by commercial firms or banks. Promissory notes issued and signed by the banks are usually called cashier's cheque or cashier's order. The bank promissory notes are all sight promissory notes. In the international trade, most promissory notes are drawn by banks that are not negotiable. A promissory note is very much like a bill of exchange that has been accepted, and can only have one copy. When it is dishonored, the payee need not produce a protest（or a certificate of dishonor）for the settlement of the dispute.

Commercial promissory notes, also called general promissory notes or trader's notes, are rarely used within international trade practice. They are also divided into sight promissory notes and time promissory notes. However, in domestic trade practice in some countries, some sellers accept commercial promissory notes as a guarantee for the payment, especially, installment payment of some expensive commodity. In using bank promissory notes or bank notes, the importer first needs to buy the promissory note from a bank, and then send it to the exporter for the settlement of payment. When the payee has received the bill, he usually will deposit it in his own bank that will ask the bank that has made the bill for the payment.

8.3 Cheque（Check）

8.3.1 Definitions of Cheque

It is stipulated in The Bills of Exchange Act of the United Kingdom that a cheque is a sight B/E with the bank as the payer, that is to say, it is an unconditional order drawn on a banker by the drawer, requiring the banker to pay on demand a sum certain in money to or to the order of a specified person or to the bearer. The payer of a check is the drawer of the check. A cheque drawn on a bank overseas cannot be readily negotiated by the exporter. If the exporter's bank was prepared to negotiate it for him then he would receive payment right away but at the cost of the discount. Failing this the exporter would have to ask his bank to collect the cheque for him and this would be both time-consuming and relatively expensive.

In The Negotiable Instruments Law of the People's Republic of China, a check means a bill issued and signed by the drawer, appointing the bank or other financial institutes to make payment of a sum certain in money unconditionally to the payee or the check holder. If the drawer has not enough deposit in the bank for the cheque amount, the cheque will be dishonored, and this kind of cheque is called“bounced cheque”, which is not allowed in law.

8.3.2 Contents of Cheque

The key elements in a check according to The Negotiable Instruments Law of the People's Republic of China are as follows:1）The words of“cheque”or“check”;2）Unconditional payment promises;3）A sum certain in money; 4）The name of payee; 5）The issuance date;6）The signature of the drawer;7）The check without any one of stipulated elements is regarded as in valid.

The drawer writes a sum certain in money on the check and draws on a banker requiring the banker to pay the sum to the specified person or to the bearer. The drawer shall be committed to the obligation for the check and on the law. The obligation of the check means that the drawer shall take the responsibility of making payment to the payee; the legal obligation refers to that the drawer shall keep an account in the paying bank with the deposit not lower than the sum on the check. If the deposit is less, the check will be dishonored when the bearer presents the check to the paying bank for the payment. In this case, the drawer shall be held for the legal responsibility. The check is only at sight.