Credit and the Law: What to do With a Paid in Full Check That Isnt

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Credit and the Law: What to do With a "Paid in Full" Check That Isn't

"So, when can we expect the rest of the money you owe us?" Betchley Supply owner Pete Betchley asked Sam Collins of Sam's Super Stores.

Editor's Note: This article originally appeared in the Credit & Collection Manager's Letter, which Credit Today purchased in 2006.

"The rest of the money?" Collins replied. "What do mean, the rest of the money? We've already paid you all you're going to get."

"Our invoice was for $10,000," Pete countered. "My books show that you paid $7,000."

"Maybe so," said Collins. "But my canceled check says 'paid in full.' So $7,000 is all you're getting. I just didn't think those overhauled cash registers were worth $10,000. If you thought they were, you shouldn't have cashed the check."

Pete was stunned. He'd never seen the check. It had been credited to the account and deposited by his part time bookkeeper, who'd never mentioned the "paid in full" notation.

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"If you thought the price was too high, why didn't you call me?" he asked Collins angrily. "I don't think what you did was ethical."

"And I don't think you run much of a business office," Collins replied. "Don't blame me for your own inefficiency!"

"I'll take care of my business office," Pete snarled, "and I'll see you in court!"

Can Pete collect the $3,000?

Make your decision; then click on "next" below for the answer.

In this situation, you're faced with some vexing questions: What are the consequences of cashing the check? If the check is cashed, can the balance be collected later?

State law governs each of these questions, and presently the 50 states are divided into three competing positions:

common law,
Uniform Commercial Code Section 1-207, and
Uniform Commercial Code Section 3-311.

In legal terms, the debtor is attempting to apply the common law doctrine of Accord and Satisfaction to force the creditor to substitute a new contract in place of the original agreement. To be effective, the debt must concern a bona fide (not fabricated) dispute for an unliquidated amount. The debtor's "full payment" check constitutes the offer. If the creditor cashes the check, or holds on to it for an unreasonable length of time, the creditor has accepted the offer. An accord and satisfaction has occurred, and the debtor is released from liability on the debt. Thus, the creditor must either cash the check or return it to the debtor within a reasonable time.

Until recently, this position was almost universally accepted as the majority position throughout the United States. Every state that previously adhered to this common 1aw rule has now adopted Section 3-311 of the Uniform Commercial Code. Thus, the common law rule is still good law for accord and satisfaction that occurred prior to a state's adoption of 3-311. One Texas court has adhered to the position that if an accord and satisfaction occurred before the statute was enacted, the common law rule applies. Thus, a state's common law should be reviewed to see if this common law rule is available.

A number of states rejected the common law view on the grounds that this doctrine places the creditor in a disadvantageous position and permits the debtor to practice extortion. Offering a check for less than the contract amount, but in "full settlement," allegedly inflicts an exquisite form of commercial torture on the creditor. Thus, these courts hold that the creditor can overcome and avoid an accord and satisfaction (full settlement) by either crossing out said words or by writing "without prejudice" or "under protest" or words of similar import on the reverse side of the check.

The courts adhered to a literal reading of UCC Section 1-207 and reasoned that it was unfair that one side could unilaterally modify a contract. Since there was no meeting of the minds and no new contract, the check acts as merely a partial payment and the creditor may attempt to recover the balance from the debtor. This position is still followed only by the courts of New York, Ohio, and Rhode Island. Previously, South Dakota, West Virginia, Alabama, Kentucky, and some courts of Texas adhered to this position.

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Both the common law and the UCC views will be supplanted by the new Section 3-311 position, which has been adopted by 42 states. As more states adopt the revisions to Articles 3 and 4 of the UCC, the other two judicial positions will be legislatively eliminated.

Under Section 3-311, the common law doctrine of Accord and Satisfaction is partially codified into the UCC so that if a check is marked "paid in full" and is deposited, the matter is settled. However, one may revoke the accord and satisfaction by fully refunding/returning the amount received within 90 days.

This section also enables "organizations" to avoid an accord and satisfaction if certain procedural requirements described within Section 3-311(c) are satisfied. First, the organization must have communicated to the other party that an offer of full payment is to be sent to a particular person, office, or place, and the check must not have been received by the designated person, office or place. It should be noted that the term "organization" is defined very broadly by the UCC so that small businesses and joint ventures of two or more persons will fall within the definition. In this situation, the debtor's check constitutes a partial payment.

Section 3-311 is a fair rule that permits either side to revoke an accord and satisfaction and also prevents that debtor from "pulling a fast one" either by slipping a full settlement check through a large automated collection center or by extorting an unjust settlement from a deserving creditor.

Finally, it should be noted that California has passed its own accord and satisfaction statute--Cal. Bus. Code Section 1526 (West 1992)--in addition to adopting UCC Section 3-311. These two statutes are not identical, and both should be reviewed for their distinct advantages. It is hoped that the California courts or legislature will rectify this in the future to prevent confusion.

Editor's Note: The above article originally appeared in the Credit & Collection Manager's Letter, a newsletter purchased by Credit Today in 2006. This article originally appeared prior to 2000.