What are the Requirements for an Investor to be a Holder in Due Course?

There are many California requirements for an investor to be a holder in due course.  A holder of an instrument is entitled to enforce the instrument.  However, a “holder in due course” has greater rights under the Uniform Commercial Code (UCC) and the California Commercial Code (COM) than a holder who is not a holder in due course.  Specifically, a holder in due course takes an instrument free from many of the defenses to repayment that might have been asserted against the original obligee or against another assignee or holder not in due course.  An experienced San Jose business law firm can help business owners and investors understand their rights and requirements in order to be a holder in due course.

There are specific requirements that must be met for an investor to qualify as a holder in due course, including that:

  • The investor takes the instrument for value;
  • The investor takes the in good faith;
  • The investor had no notice of any of the following:
    • The debt was past due or had been dishonored,
    • An uncured default existed on a related debt,
    • The signature on the note was altered, forged, or unauthorized, or
    • That any party had a claim to repayment of the debt.

 Thus, an investor must have no notice or reason to believe that there may be certain legal issues with the instrument in order to be afforded the protections of a holder in due course.

 One California case illustrates the importance of every requirement being met in order for an investor to qualify as a holder in due course.  In Creative Ventures, LLC v. Jim Ward & Associates (2011) 195 Cal.App.4th 1430, a corporation holding itself out as a licensed real estate broker loaned approximately $3 million to two real estate developers to finance two development projects.  The loans were evidenced by four promissory notes held by different investors.  Each note called for interest payments in excess of the maximum allowed under California usury law.  However, the interest changed would have been lawful if the loans were arranged or made by a licensed real estate broker.

Upon learning that the corporation was not so licensed, the real estate developers sued the broker and all the investors to recover the interest paid on the loans.  The investors argued that since they had no notice that the broker was unlicensed, that they qualified as holders in due course and, therefore, were protected from the borrowers’ claims.

Unfortunately for the investors, the corporation never endorsed and delivered the notes to them.  Instead, the corporation kept the notes and collected the payments, then distributing shares of the payments to the investors.  Because the investors never had physical possession of a note, the appellate court ruled they were only assignees of the notes, not holders and not holders in due course of the notes, which required them to first be “holders” of the instrument. The court thus found that the corporation was the holder of the notes and the investors could not avail themselves to any holder in due course defenses.

 Contact a San Jose Business Law Firm for More Information

 The laws involving investors and commercial transactions are complex and any mistake can have high consequences.  To ensure your rights are protected in any real estate or business transaction, consult with a San Jose business attorney at Structure Law Group, LLP today by filing out our online form or calling us at 408-441-7500.