Meaning and Legal Basis of a Bill of Exchange

A trader who sells goods on credit does not always want to wait for cash whenever the customer chooses to pay — very often the seller wants a firm, legally enforceable promise of payment on a fixed future date, in a written document that can itself be transferred, discounted with a bank, or used to settle the seller's own debts. This is exactly what a Bill of Exchange is designed to do, and this chapter of the Maharashtra HSC (MSBSHSE) Std XII Book-Keeping and Accountancy syllabus studies its meaning, its key legal terms, and — most importantly — how it is recorded in the books of both the party who draws it and the party who accepts it.

A Bill of Exchange is governed by the Negotiable Instruments Act, 1881. Section 5 of the Act defines it as: 'an instrument in writing containing an unconditional order, signed by the maker, directing a certain person to pay a certain sum of money only to, or to the order of, a certain person, or to the bearer of the instrument.'

Essential features of a Bill of Exchange, drawn from this definition:

1. It must be in writing — an oral order to pay is not a bill.
2. It must contain an order to pay, not a mere request.
3. The order must be unconditional — payment cannot depend on the happening of an uncertain event.
4. It must be signed by the drawer (the maker of the order).
5. The parties must be certain — the drawee and the payee must each be named or otherwise identifiable with certainty.
6. The sum payable must be a certain (definite) sum of money, and money only — not goods or services.
7. It must be payable either on demand, or on the expiry of a fixed/determinable future time.
8. It requires the drawee's acceptance to become a valid, enforceable bill — a distinguishing feature taken up in the next section.

Once properly drawn and accepted, a bill of exchange becomes a valuable negotiable instrument: it can be retained till maturity, endorsed to a third party, discounted with a bank for immediate cash, or sent to a bank for collection. Each of these options, and how each is recorded in the books of both parties, is what the rest of this chapter builds up to.