Bill of Exhcange

Bill of Exchange (or Bill Finance) is one of modes of lending by a banker and mostly used in  trade to be an appropriate form financing trade and business. It is a legal document which is used for credit payment. It is a negotiable instrument.

Bill is a short form of 'Bill of Exchange". Section 5 of Negotiable Instruments Act, 1881 defines bill of exchnage as

• Instruments in writing
• Containing an unconditional order 
• Signed by the maker,
• Directing a certain person
• To pay certain sum  of money only, to or to the order of a certain personor the bearer of the instruments"
  

There are three persons in this system:- Drawer, Drawee and Payee

A maker of bill of exchange is called 'Drawer'.
Person who is directed to pay is called 'Drawee'. and
Person who is entitled to recieve the payment of amount is called 'Payee'.

So The bill of exchange is a written order by the drawer to the drawee to pay money to the payee.
It is a type of negotiable instrument.

'Drawer' of the bill is a Creditor/Seller and the 'Drawee' of a bill is the Debtor/Buyer. (if bill is assigned to third party, then such party will become Creditor and drawer would be liable for such assignees in case of default by Drawee)
if the bill is not endorsed by third party then Drawer and Payee will be same person.

This could be understood better by example of Letter of Credit
e.g.

ABC Company in India wants to import certain machinery which is manufactured by XYZ Company in England. They enter into system of LC to make and receive payments. Since neither party knows the other, they are not sure whether the other will fulfil his part of obligation or not. ABC Company will approach its banker, bank of India and make a request by an application for opening a letter of credit (LC) in favour of XYZ Company. Bank of India, after opening a letter of credit in favour of XYZ Company, informs another bank in England, the Barclays bank (Assumed name) with whom bank of India has an arrangement, to forward the letter of credit to XYZ Company. The Barclays bank after verifying the authenticity of the LC forwards the same to XYZ Company. After verifying that the LC complied with the terms of sales contract, XYZ Company ships the machinery to ABC Company. Now XYZ Company collects the bills of lading handed over by the shipping company and the other documents required as per the LC and Draws a bill of exchange under the LC and presents it to its bankers, the Barclays bank, for negotiating the bill and obtain the payment. Barclays bank, on their part, receives the bill and documents from XYZ Company and verifies them as per terms of LC. After checking the authenticity of documents, Barclays negotiates the bill and makes the payment to XYZ Company. After it Barclays bank sends the bill and documents to Bank of India. Bank of India verifies its authenticity. If documents are found in order then Bank of India sends the bill to ABC Company for payment. ABC Company checks the documents on receiving them and pays the bill. On ABC Company making payment, Bank of India releases the shipping document so that ABC Company can collect the goods from the shipping company.

When bank accepts the bill of exchange and thereby makes payment to the drawer on the behalf of Drawee. and Bank further sends the bill to Drawee after verifying the authenticity of Bill. Once the payment is made by Drawee, bank releases other documents required by Drawee to get his import.

A cheque is a special type of bill of exchange. It is drawn on banker and is  required to be made payable on demand.

Classifiaction of Bills:

• Inland Bills - Bills drawn or made in India and made payable in or drawn upon any person resident in India are Inland bills.
• Foreign Bills - Bills drawn outside India and made payable in or drawn upon any person, resident in any other country outside India; Bills drawn outside India and made payable in or drawn upon any person, resident in India
• Demand Bills - Bills payable on demand and for which no time is specified in the bill
• Usance Bills - It is a bill payable otherwise than on demand. A time is specified in the bill for the payment of the value it represents. Date specified for payment is called 'Maturity/Due date'. These are also called 'Bills payable after Sight'.
• Clean Bills - Bills which are not supported by documents of title to goods like Bills of Lading, Railway receipts, delivery order receipt etc. These are drawn normally to effect discharge of debt or claim. Clean bills arise when the goods covered by the bill are directly sent  to the buyer due to mutual consent e.g. Local bills and Supply bills.
• Documentary Bills - A bill of exchange accompanying the documents of title to goods, is called 'Documentary Bills'. These are drawn to claim price of goods supplied. These are bills are drawn in two ways either 'Delivery against Payment' or 'Delivery against Acceptance'.