What is a Discharge?

Discharge is the release from further liability, obligation, or from the binding effect of the negotiable instrument.

What is the effect of a discharge of a negotiable instrument?

1) As to the paper (instrument), it puts an end to it as a contractual obligation.

2) As to the parties to the instrument, it operates as a release of some or all of them from further obligation and liability under the instrument.

How is a negotiable instrument discharged?

In Section 119 of the NIL, a negotiable instrument may be discharged in any of the following ways:

1) By payment in due course by or on behalf of the principal debtor.

2) By payment in due course by the party accommodated, where the instrument is made or accepted for his accommodation.

3) By the intentional cancellation of the instrument by the holder.

4) By any other act which will discharge a simple contract or the payment of money.

5) When the principal debtor becomes the holder of the instrument at or after maturity in his own right.

What constitutes payment in due course?

In Section 88, there is payment in due course when it is made:

a) at maturity date of the instrument or after the maturity date of the instrument

b) to the holder of the instrument

c) in good faith

d) without notice that his title is defective

In addition, it must be by or on behalf of the principal debtor or the accommodated party where the instrument is made or accepted for his accommodation.

Can there be payment of the instrument is paid by another instrument?

No. According to Article 1249 of the New Civil Code, there is payment only:

a) when the instrument is encashed; or

b) the value of the instrument is impaired through the fault of the oblige.

Who may pay the instrument to have the effect of the discharge?

1) by a primary party - maker, acceptor,

2) by a surety of a primary party

3) by a person on behalf of the principal debtor under the principles of the law on agency

Thus, a principal debtor may not necessarily be the person who is indicated as the person primarily liable in the instrument.

An accommodated party may be the principal debtor even if he signed merely as a secondary party.

Will a payment of a party secondarily liable discharge the instrument?

No. Section 121 states, that "when the instrument is paid by a party secondarily liable thereon, it is not discharged.

What is the effect of payment by a party secondarily liable?

A party secondarily liable, who pays the instrument,

a) is remitted to his former rights as regards all prior parties;

b) he may strike out his own and all subsequent indorsements (striking out of indorsement); and

c) negotiate the instrument.

Exceptions:

1) When it is payable to the order of a third person and has been paid by the drawer; or

2) Where it is made or accepted for accommodation and has been paid by the party accommodated.

Why is striking out of indorsements allowed?

It is allowed because indorsement of the paying party as well as those subsequent indorsements after his first indorsement, are not necessary for this title, since there is no more any need of enforcing payment against him as a prior party.

Payment by the Drawer

If the instrument is payable to the order of a third person, the drawer is the person ultimately liable on the instrument even if the accepted (drawee-acceptor) will pay the payee.

Payment by Third Persons

A third person who one will pay for or in behalf of the maker and not one who intends to have nay right over the instrument.

If payment is one who intends to acquire a right over the instrument, such person is an assignee or a holder, as the case may be.

The Civil Code recognizes a situation where a third person will pay for and in behalf of the principal debtor. Although the creditor is not bound to accept payment from a third person, the creditor is not prohibited from doing so. (Article 1236-1238, Civil Code).

But whoever pays for another may demand from the debtor what he has paid, except that if he paid without the knowledge of or against the will of the debtor, he can recover only insofar as the payment has been beneficial to the debtor (Article 1236, Civil Code).

To whom shall payment be made to have the effect of discharging the instrument?

Payment should be made to the holder.

What is the effect of payment to the payee who is not the holder of the instrument?

Payment to the payee who already negotiated the instrument will not discharge the same.

What is the effect of payment to a possessor of an order instrument which was not indorsed?

There is no payment in due course if payment was made to a possessor of an order instrument which was not indorsed because the possessor is not a holder.

Good Faith of the Holder

Payment must be made in good faith and without notice that the holder's title is defective.

Renunciation

Under Section 122 of the NIL, the holder may expressly renounce his rights against any party to the instrument before, at, or after the maturity of the instrument.

The renunciation must be absolute and unconditional in order for the instrument to be discharged.

Cancellation

To discharge the instrument, the cancellation must be intentional. This may be effected by destroying the instrument, either by tearing it up, burning it, or writing the word "cancelled" on the instrument.

The law does not require cancellation to be in writing.

What is the effect of unintentional cancellation?

Under Section 123 of the NIL, a cancellation made unintentionally or under a mistake or without the authority of the holder is inoperative.

But where an instrument or any signature thereon appears to have been cancelled, the burden of proof lies on the party who alleges that the cancellation was made unintentionally or under a mistake or without authority.

What are other acts that may discharge a simple contract or payment of money?

In Article 1231 of the Civil Code, an obligation is extinguished through any of the following acts:

1) payment or performance

2) loss of the thing due

3) condonation or remission of the debt

4) confusion or merger of the rights of creditor and debtor

5) compensation

6) novation

7) annulment or rescission

8) fulfillment of a resolutory condition

9) prescription

There are other grounds for extinguishment of obligation elsewhere in the Civil Code.

When Principal Debtor Becomes the Holder

Surrender of the Instrument

The instrument must be surrendered to the payor whenever discharge is by payment by or in behalf of the principal debtor, payment by the accommodation party, by renunciation or by any other ground that discharges simple contracts.

If the instrument is not surrendered, it may fall in the hands of a holder in due course who may have the right to enforce the instrument despite the previous payment that was made.

When will persons secondarily liable on the instrument discharged?

In Section 120, persons secondarily liable on the instrument are discharged:

1) by any act which discharges the instrument

2) by the intentional cancellation of his signature by the holder

3) by the discharge of the prior party

4) by a valid tender or payment made by a prior party

5) by a release of the principal debtor unless the holder's right of recourse against the party secondarily liable is expressly reserved.

6) by any agreement binding upon the holder to extend the time of payment or to postpone the holder's right to enforce the instrument, unless the right of recourse against such party is expressly reserved.

Discharge of Prior Parties

The cancellation of an indorsement of a person secondarily liable by the intentional cancellation of his signature by the holder may result in the discharge of other parties.

Section 48 of the NIL provides that the indorser whose indorsement is struck out, and all indorsers subsequent to him, are thereby relieved from liability on the instrument.

What is meant by tender of payment?

Tender of payment is the act by one which produces and offers to a person holding a claim or demand against him the amount of money which he considers and admits to be due, in satisfaction of such claim or demand without any stipulation or condition.

Release of the Principal Debtor

Release of the principal debtor discharges the instrument and the persons secondarily liable have no more right of recourse against the principal debtor.

Exception:

However, where the release was made with reservation of the right of recourse against the principal debtor, the persons secondarily liable are not discharged.

Extension of Term

An agreement to extend the term of payment entered into with the principal debtor releases the persons secondarily liable, because the assurance of the drawer and the indorsers is payment according to the tenor of the instrument.

The rule is similar to the rule in Guaranty and Suretyship. Article 209 provides that an extension granted to the debtor by the credit without the consent of the guarantor extinguishes the guaranty.

What is the effect of extension of term to the accommodation parties?

The accommodation party is still liable for the whole obligation and such extension does not release him because as far as the holder for value is concerned he is solidarily liable as co-debtor.