(B) SPECIAL RELATIONSHIP OR BANKER’S RIGHTS

The special relationship between banker and customer refer to certain rights of the banker as stated
below:

1. Right of Lien

2. Right of Set-off and

3. Right of Appropriation of Payments or the Rule in Clayton’s case

4. Banker’s right to claim incidental charges

5. Banker’s right to charge interest.

1. RIGHT OF LIEN OR BANKER’S LIEN

(RIGHT OF GENERAL LIEN)

Lien: Meaning : Banker’s right of lien is an important special feature of banker-customer relationship.
The term ‘lien’ means “the right of a creditor to retain in his possession the goods and securities owned
by the debtor until the debt has been discharged, but not the right to sell”. In simple, lien means right to
retain the goods or securities till the debt is cleared.
Kinds of Lien: Lien is of two kinds, namely:-

i) Particular or Special Lien; and

ii) General Lien.

(i) Particular Lien: A particular lien gives the right to retain possession only of
goods in respect of which the charges or dues have arisen. Eg:- A tailor’s
right right to retain the clothes till the stitching charges are paid.

(ii) General Lien: It confers on Banker (as a creditor) right to retain possession
until the whole balance of the account is paid. It extend not only towards
goods pledged as security but also in respect of others. A Banker
exercises/possesses the right of ‘General Lien’.

Banker’s Right of General Lien: It confers on Banker (as a creditor) right to retain the goods and other
securities owned by the debtor until the debt due from him, is repaid. For instance, when a bank
sanctions loan to a customer against a particular security. At the time of repayment/to clear off the loan,
the security pledged/mortgaged is not sufficient to meet the liability, the banker may proceed (exercise
lien) against other securities (movable or immovable) pertaining to the customer (debtor). Where as a
particular lien confers rights over a particular debt only. The general lien is applicable to all debts due
from debtor to the creditor.
Section 171 of the Indian Contract Act, 1872 confers on Banker, the right of general lien. The banker can
exercise his right of lien on all goods and securities entrusted to him in the capacity as a banker. The
banker cannot exercise his right of lien in respect of :

(i) The goods and securities entrusted to him as a trustee or an agent; and

(ii) The goods and securities entrusted to him for some specific purpose.

Banker’s lien: An Implied Pledge: If goods are delivered as security by one person to another, it is called
‘Pledge’. Eg:- If a farmer delivers 100bags of paddy or wheat for securing a loan from the bank, it is
called ‘Pledge’. The farmer is pledger and the banker is pledgee. In pledge, the pledgee (creditor) can
exercise the right of sale. With the right of lien, the banker can sell the goods and securities in case of
default by the customer. However, he cannot sell the title deeds of an immovable property.

Therefore, the Delhi High Court in Vijay Kumar vs Julhunder Body Builders & Others (1983) 54 COMP.
CAS. 125, the banker’s lien has judicially been defined as an Implied Pledge.

Thus, Lord Campbell in – Brandao vs Barnett, (1846) – held that banker is liable.

Exceptions to the General Lien: The Banker cannot exercise the right of general lien in the following
cases:

(i) Safe custody deposits: When the customer deposits with the banker, valuables, securities,
documents etc. for safe custody, the right of General Lien cannot be exercised over them.
(ii) Documents deposited for Special Purpose

(iii) When the customer, negligently or mistakenly left the securities with the banker

(iv) When the right of general lien becomes particular lien.

 2. RIGHT OF SET-OFF

(BANKER’S RIGHT TO SET-OFF : COMBINING OF ACCOUNTS)

The expression ‘Set-off means “Combining two accounts of the same customer”. It is a mutual
adjustment/arrangement between the banker (as creditor) and customer (as debtor) in respect of
payments due to the creditor. Set off may aptly be described as the right of a Banker to appropriate the
credit balance in one account of the customer towards sum due to him by the customer in another
account in order to arrive at the net sum due. It is a statutory right, which a banker is entitled to exercise
in order to combine two accounts in the name of the same customer to recover the debts due by the
customer (debtor), The banker adjusts the debit balance in one account with the credit balance in
another account. For instance, one of his customer’s accounts shows debit balance i.e. overdraft of Rs.
10,000/- and another account shows a credit balance of Rs. 5,000/-. Then, the banker can adjust the
credit balance of Rs. 5,000/- against the debit balance by combining the two accounts and can claim the
containing amount of Rs. 5,000/-only from the customer.

Conditions: The banker can. Exercise the right of set-off subject to the following conditions

(i) The accounts must be in the same name of the customer and in the same right/capacity.

(ii) The right is in respect of debts due only; not in respect of future debts.

(iii) The amount of debts must be certain and undisputed.

(iv) There should not be any agreement express or implied to the contrary.

(v) The right cannot be exercised after the Garnishee Order passed by the court.

Automatic Right of Set-off : Banker’s right to set-off arises automatically under the following
circumstances :—

(i) On the death, insanity or insolvency of the customer.

(ii) On the insolvency of the partner of the firm or on the winding up of a Company.

(iii) On the receipt of Garnishee Order

 (iv) On receiving notice of assignment of a customer’s credit balance, and

(v) On receiving notice of second mortgage over the security charged to the banker.

PAYING BANKER.

When a person opens an account with a particular branch of bank, the contractual relationship of
banker and the customer starts. This relationship is mutual and contractual in nature, and is affected by
legal obligation from both sides. The customer deposits amount, deposits cheques with his banker.
Whenever he needs draws such amount, or issues cheques to other persons. It is the duty of the bank to
honour such cheques. The bank who pays the money back to his customer is called “Paying banker”.
However, the obligation of paying back the money to his customer or his endorses is not absolute but
conditional. The drawee of a cheque is always paying banker.

Section 31 of the Negotiable Instruments Act, 1881 lays down the provisions about the position of the
drawee-bank.
Section 31 – Liability of drawee of cheque: The drawee of a cheque having sufficient funds of the drawer
in his hands, property applicable to the payment of such cheque must pay the cheque when duly
required to do so, and, in default of such payment, must compensate the drawer for any loss or damage
caused such default.

OBLIGATIONS OF PAYING BANKER

There is an obligation on the paying banker to honour the cheque of the customer, if it is presented in
the proper form, in working hours, at a proper place. There are other obligations on the part of the
paying banker.

1. PRECAUTIONS BEFORE HONOURING CHEQUE:

It is the duty of paying banker to take certain precautions before honouring cheque. The position of the
paying banker is between the devil and deep sea (front well, back bay). If he pays money to the
customer without observing whether there is sufficient money, or the cheque is forged, or from one
customer’s account into another customer’s account, he will loose his money. If he wrongfully
dishonours the cheque, then he will have to face the risks in paying damages to his customer. Therefore,
he should be very careful before honouring a cheque.

2. RIGHTFUL DISHONOUR

It is the duty of the paying banker to dishonour a cheque in rightful cases and circumstances. If a wrong
cheque is honoured, the banker will be into risks and economic loss.

3. WRONGFUL DISHONOUR
It is the duty of the paying banker to take certain precautions before honouring a cheque, so that there
will be no wrongful dishonour. For a wrongful dishonour he will be held liable to pay damages.

4. WRONG PAYMENT

The paying banker should not pay amount for a cheque of a customer from another’s account. Some
times it may happen by negligence, oversight, etc. of the paying banker. Sometimes, a customer may
have two accounts. The paying banker should credit or debit the amount correctly so that no wrong
payments will be made.

5. ENDORSEMENTS - Endorsements on a cheque is a mandate to the paying banker. He

should be very careful, and to act according to the directions of the customer. If he fails
in observing the endorsements, that cost him liable for damages.

6. NOTICE OF DISHONOUR

It is generally believed that a banker could combine his customer’s accounts unless there is an
agreement contrary to that effect. This view was laid down, basing on the decision in –

Garnett vs Mc.Kervan (1872) 27 LT 560: In this case, the plaintiff had a dormant overdraft with one
branch of a bank and a few years after he had stopped business with the branch, he opened a new
account with another branch of the same bank, where his credit balance just exceeded the amount of
the dormant debit balance referred to above. The amount required for the clearing of the overdraft with
the first branch was transferred from his account with the second branch, which led to the dishonour of
the customer’s cheques drawn against his credit balance. The court’s decision was in favour of the bank,
as it was held that there was no special contract or usage proved to keep the accounts separate and
that, while it might be proper and considerable to give notice to a customer of intention to combine
accounts, there was no legal obligation on a bank to do so arising either from the express contract or
course of dealings.

Halesowen Presswork & Assemblies Ltd vs Westminster Bank Ltd (1970 All E R.33): In this case, the court
held that the bank is not entitled to combine two accounts if there was an arrangement with its
customer at the time of opening the accounts to keep the accounts separately for a period unless the
Bank had given notice to determine the arrangement by reason of special circumstances, the Bank
having taken no steps to determine it.
NEGOTIABLE INSTRUMENT.

Negotiable Instrument has not been defined under the Negotiable Instruments Act. According to
section 13 of the Act “a negotiable , instrument means a promissory note, bill of exchange or cheque
payable to order or bearer, whether the words order or bearer appears on the instrument or not”.

In England Justice K.C.Wallis defines a negotiable instrument as “one, the property in which is acquired
by anyone who takes it bonafide and for value, not withstanding any defect of title of the person from
whom he took it.”

According to Bhashyam and Adige ( in his “Negotiable Instruments Act, 1881) “ A Negotiable Instrument
is one, which when transferred by delivery or endorsement and delivery passes to a transferee a good
title to payment according to its tenor and irrespective of title of the transferor”.

According to Thomas (in his Principles of Banking) “ a Negotiable Instrument is one which is by a legally
recognized custom of trade or law, transferable by delivery”. In such circumstances that :
 (a) The holder of it for time being may sue on it in his own name and

(b) The property in it passes free from equities, to a bonafide transferee for value, not
withstanding any defect of the transferor “.

By observing the above definitions we can deduce the following features of Negotiable Instrument.

(i) Negotiability

(ii) It confers absolute and good title to the Transferee.

(iii) The holder can recover the money with his own name and

(iv) It consists certain presumptions.

FEATURES OF NEGOTIABLE INSTRUMENT

Following are the characteristic features of the Negotiable Instruments:-

(i) Transferability

(ii) Absolute Title and

(iii) Right to Sue.

 (i) Transferability : The negotiable instruments are easily transferable from one person to
another by mere delivery in case of a bearer instrument and by endorsement and delivery in
case of an order instrument.

(ii) Absolute Title : A negotiable instrument confers absolute and good title on the transferee,
who takes it in good faith, even though the transferor and defective title. Such person
(transferee) is called ‘holder in due course’ and his interest in the instrument is protected by
law.

(iii) Right to Sue : The holder of a negotiable instrument, who is legally holder in due course has
a right to sue upon the instrument in his own.

Revalidation of stale cheque: A cheque which has become stale by the expiry of the period of validity
can be revalidated by the drawer. A revalidated cheque gets a new lease of life and remains valid for the
extended period of validity.

Validity of a post-dated cheque: In case of post dated cheque the period of validity is to be counted from
the date which has been put on the cheque because that date is to be considered as the date of issue of
cheque rather than the date on which the cheque has been drawn (Shri. Ishar Alloys Steel Ltd vs
Jayaswala NECO Ltd., AIR 2001 S.C.1161).

A post dated cheque Is not a cheque on the date on which it is drawn. It becomes a cheque on the date
written on it and till that date the instrument remains a Bill of Exchange (Ashok Yeshwant Badave vs
Surendra Madhavrao, AIR, 2001 SC 1315).

For the purpose of offence of dishonour of cheque the pre-requisite is presentation of the cheque within
6 months from the date it is drawn. Thus, the period of 6 months for the post dated cheque starts from
the date written on the cheque.
 Distinction between Bill of Exchange and Cheque

Bill of Exchange Cheque

(i) The drawee may be any person including a banker (i) Drawee is always a banker

(ii) Acceptance of drawee is necessary (ii) Not necessary

(iii) Notice of dishonour is necessary (i) Not necessary

(iv) Drawee is not entitled to any statutory protection (ii) Drawee is entitled to Statutory
protection

(v) Grace period of 3 days for payment is allowed (iii) No such grace period for
payment

(vi) It has to be stamped according to Stamp Act, 1940 (iii) Stamping is not necessary

(vii) No crossing is allowed (iv) Different kinds of crossing is allowed

(viii) Payment of bill cannot be stopped (v) Payment of a cheque can be stopped

 
NEGOTIABLE INSTRUMENTS – KINDS.

(A) Promissory Note (Sec.4). (B) Bill of Exchange (Sec.5) and (C) Cheque (Sec.6)

Promissory Note (Section 4)

Definition: Section 4 of the Negotiable Instruments Act, 1881 defines promissory note as “an instrument
in writing (not being a bank note or currency note) containing an unconditional undertaking, signed by
the maker to pay a certain sum of money only to, or to the order of, a certain person, or to the bearer of
the instrument”. In short, it is called ‘Pronote’.

The promissory note contains a promise or undertaking to pay a certain sum of money. The Act does not
prescribe any particular form for a valid promissory note, but it is essential that it must satisfy the
requirements of Section 4.

Essentials: A promissory note to be valid and enforceable, the following essentials are to be satisfied:

(i) The promissory note must be in writing

(ii) It must contain a promise/undertaking to pay certain sum of money

(iii) The promise must be unconditional and certain

(iv) It must be duly signed and delivered by the maker

(v) The parties must be certain

(vi) It must be stamped according to the provisions of the Stamp Act, 1940.
 Specimen/Format of Promissory Note

(a) When promise is made to pay money on demand

Rs 20,000 Pune,

September, 18, 2007

On demand, I promise to pay Sri. Gupta or order the sum of Rupees Twenty Thousand only for value
received with interest at 12percent per annum.

To,

Sri.Gupta

148, Shivajinagar,

Pune-01

Stamp
 

CHEQUE (Section 6)

A cheque is a bill of exchange with the following distinctive features:

(i) It is always drawn on some bank. It means that the drawee of a cheque is always a bank.

(ii) A cheque is always payable on demand. A bill of exchange other than a cheque may be
either payable on demand or may not be payable on demand.

(iii) After the amendment of the act in 2002, a cheque may also be in “electronic form”

Elements: Cheque is a special kind of bill of exchange, and the essentials of bill of exchange are also
present in respect of the cheque. Further, to constitute cheque, the following conditions are to be
satisfied –

(i) It must be drawn on a specified banker, and

(ii) It is always payable on demand

Form of Cheque: A cheque can take the form of an order written on an ordinary piece of paper, but
bankers usually insist upon the use of printed cheque forms supplied by them to their customers. A
cheque is not invalid simply because it is made on an ordinary slip of paper, but usually the rules for
opening an account specify that the customers should make use of printed cheque forms only. It is by
virtue of such a rule that the banker would be justified in dishonouring cheques not drawn on the
printed forms supplied to customers.

Cheques need not be stamped: In C.T.Joseph vs I.V.Phillip (AIR 2001, Ker. 300) it has been held by the
Kerala High Court that the cheques do not require any stamp under the Stamp Act. It has also been held
that Section 20 of the Negotiable Instruments Act, which applies only to inchoate instruments, does not
apply to cheques.

It may be noted that In practice in case of certain payments like payment through treasury such as
Income Tax refund orders, it is insisted that there should be acknowledgement of receipt of the amount
and the necessary stamp is also required on the back of the Refund Order.

Period of Validity of a cheque: A cheque is valid for payment within a period of six months from the date
on which it is drawn. According to the banking practice a cheque remains valid for payment for six
months from the date on which it is drawn. Thereafter it becomes stale and then the drawee bank can
refuse to pay the same.

Kinds of Crossing: Crossing of cheques is of two kinds namely:-

(i) General Crossing and (ii) Special Crossing

General Crossing (Sec 123): Section 123 deals with “General Crossing”. It runs as follows:

“Where a cheque bears across its face an addition of the words “and company” or any abbreviation
thereof, between two parallel transverse lines, or of two parallel transverse lines simply, either with or
without the words “not negotiable”, that addition shall be deemed a crossing, and the cheque shall be
deemed to be crossed generally”.

General crossing consists of drawing of two parallel transverse lines on the face of the cheque. Some
times, in addition to these lines, the words “and company” or ‘& co.’ or ‘Not Negotiable’ or ‘Account
Payee’ may be added as shown below:

Writing of two parallel transverse lines on the face of the cheque are essential for general crossing and
the inclusion of words ‘and company’ or ‘& co.’ is immaterial. The lines should normally be drawn,
across the middle of a cheque but sometimes they run across a corner, usually the left hand top corner.
The Act is silent as regards the size of the lines or the distance between them.

Special Crossing (Sec.124): Section 124 of the Negotiable Instruments Act, 1881 lays down the provisions
relating to “Special Crossing”. It reads as follows:-

“Where a cheque bears across its face an addition of the name of a banker, either with or without the
words “not negotiable”, that addition shall be deemed a crossing, and the cheque shall be deemed to be
crossed specially, and to be crossed to that banker”.

Special crossing consists in writing, the name of the bank across the face of cheque. In special crossing,
the banker on whom it is drawn shall pay it otherwise than to the banker to whom it is crossed or his
agent for collection. Specimen of special crossing is given below:

Section 126 of the Act, imposes an obligation on the paying banker to make payments against crossed
cheques. Otherwise he is liable under Section 129 of the Act. Further, he loses statutory protection
available to paying banker under Section 128.

A special crossing requires the name of the banker to be written across and on the face of the cheque.
The two parallel transverse lines are not necessary for a special crossing although they are usually
drawn, or also the words ‘& Co.’ or their abbreviations since special crossing itself specifies the name of
the banker.
A cheque crossed specially will be”paid only when it presented by the bank named between the parallel
lines. The banker to whom the cheque is specially crossed, may appoint another banker as his agent for
collection of such cheques. Thus, a special crossing makes the cheques still more safe.

Who may cross a cheque (Sec.125): A cheque may be crossed either by the drawer or by the holder.
Section 125 permits the crossing being made in the following ways by the holder:-

(i) Where a cheque is uncrossed, the holder may cross it generally or specially

(ii) Where a cheque is crossed generally the holder may cross it specially

(iii) Where a cheque is crossed generally or specially the holder may add the words “not
negotiable”

The banker also Is entitled to cross a cheque in the name of another bank who may collect the cheque
as an agent for collection. Therefore, where a cheque is crossed specially, the banker to whom it is
crossed may cross it specially to another banker, his agent for collection (Section 127).

Protection to the “Paying Bank” (Sec.128): The relation between a banker and his customer is that of a
debtor and a creditor. Banker does not enjoy the position of a trustee of the money deposited with him
by the customer. Money deposited will always belong to the customer and the bank will be bound to
return its equivalent to the customer or to any person to his order on demand. Section 31 of the
Negotiable Instruments Act provides “the drawee of a cheque having sufficient funds of the drawer in
his hands, properly applicable to the payment of such cheque must pay the cheque when duly required
to do so, and in default of such payment, must compensate the drawer of any loss or damage caused by
such default”. Thus a banker should be very cautious both at the time of honouring as well as
dishonouring his customer’s cheques.

The paying banker shall ensure that the cheque which is presented for payment is in order in all respects
before making payment of cash. Sec.126, 127 and 129 of the Negotiable Instruments Act lays down the
duties of paying banker as regards to crossed cheques.

CROSSING OF CHEQUES
Chapter XIV containing sections 123 to 131 of the Negotiable Instruments Act, 1881 lay down the
provisions relating to crossing of cheques.

Cheques may be classified into two categories namely,

(i) Bearer or open or counter cheques, and

(ii) Crossed cheques

Bearer cheque can be encashed directly through the counter while the crossed cheque can be cashed
only through a bank account.

(i) Bearer Cheque: The word ‘bearer’ is not defined in the Negotiable Instruments Act, but, the
Bill of Exchange Act explains that ‘bearer’ means “the person in possession of a bill or note
which is payable to bearer”. It means, the instrument can be made originally payable to the
bearer or it may be made bearer subsequently by holder making a blank endorsement. The
bearer character of the instrument will not be lost, even in those cases where a bank
endorsement is followed by full endorsement. The instrument continues to be transferable
by mere delivery in all such cases (Walker vs MacDonble (1948) 26. 527). With regard to
bearer cheques the rule is “once a bearer cheque always a bearer cheque”. Where a cheque
is originally expressed by the drawer himself to be payable to the bearer, the paying banker
is fully protected if he makes the payment to the bearer or even if there is any forged or
restrictive endorsement on the cheque. But the payment must be a payment in due course.

Sec.85(2) has no application to the (i) Payment of a cheque which becomes bearer by a subsequent
endorsement in blank, and (ii) Payment of a customer’s bull of exchange or promissory notes.

(ii) Crossed Cheques: A crossed cheque is one which has two transverse parallel lines, marked
across its face, with or without the words ‘and company’ or any abbreviations thereof.
 Crossing is an instruction from the drawer to the paying banker to pay the amount of a
cheque through bank only and not directly to the person presenting it at the counter.

Crossing may be hand-written, stamped, printed or perforated. Crossing does not effect the negotiability
of the instrument. Therefore, a crossed cheque is negotiable by delivery in case it is payable to bearer
and by endorsement and delivery where it is payable to order. A crossed cheque can only be encashed
through bank of which the payee of a cheque is a customer. The holder of a cheque who has no account
can also obtain the amount by endorsing in favour of some person who has got an account with the
banker. The relevant rules regarding the crossing are given under Sections 123 to 131 of N.I.Act.

BANK GUARANTEE

A bank guarantee is a credit facility given by a banker to his customer. It resembles “a letter of credit”. A
letter of credit is used in international trade, whereas a bank guarantee is used in internal trade of a
country. In a number of circumstances, a bank gives bank guarantees to its customers.

Example: A is a contractor. He is participating in a tender of a Government work, which requires a

deposit Rs. One lakh as an Earnest Money Deposit. If he deposits such money, it takes too much time for
the open of the tender and to decide the tender, and finally if the tender, not awarded to A, it takes
further time le release his money from the Government. It all takes time consumption, and loss of
interest. To avoid such consequences, A approaches to his bank and requests to give a Bank Guarantee
for one lakh, and offers certain securities and guarantors to the banker. The banker and A make a
contract, and in consequence of such contract the banker issues a `bank guarantee’ for one lakh in
favour of the particular department for a specified period.

“A bank guarantee” is that at any time the Government Department may ask the bank to release the
amount as agreed in it. The banker has no other way except to pay such amount to the Government
Department.

A bank which give, a performance guarantee must honour guarantee according to its terms A bank
guarantee is not indemnity. Lt is peculiar type of guarantee. All the provisions of the Indian Contract Act,
1872 from Section 124 to 147 shall apply to Bank Guarantee.

Under a bank guarantee that a bank must pay regardless of the merits of the disputes between the
supplier and the buyer and the only exception to that rule has been made in cases of fraud.
Maharashtra State Electricity. Board, Bombay vs.

Official Liquidator, High Court Ernakulam, (AIR 1982)

M/s. Cochin Malleables (P) Ltd. Agreed with Maharashtra State Electricity Board, Bombay to supply the
goods required by the Board. Cochin Malleables (P) Ltd. Had A submit a sum of Rs. 50,000/-towards the
security as per the contract. They approached Canara Bank, and formalities, that bank gave a bank
guarantee of Rs. 50,000/- to the Board. Later after some time, disputes arose between the Board and
Company. The Board asked the Bank to pay Rs. 50.000/- which was stipulated in the , Bank guarantee.
The bank remained silent. Meanwhile Vie company was liquidated, an Official Liquidator was appointed.
The Beard demanded Liquidator to pay Rs..50,000/- who was stipulated in the Bank . guarantee. The
bank remained silent. Meanwhile the company was liquidated, an Official Liquidator was appointed. The
Board demanded Liquidator to pay Rs. 50,000,, who did not heed the demand. The Board filed a suit
against the Liquidator for the recovery. The Liquidator argued that the disputes arose between the
Board and the company, and further it was liquidated, therefore the bank was not liable to pay the bank
guarantee on behalf of the company. The Supreme Court held that the bank was not concerned with the
dispute between the company and the board, and It had to remit the amount of 50,000/- to the board