# Understanding Negotiable Instruments: Definition, Types, and Uses

![Negotiable Instrument](https://www.investopedia.com/thmb/EK4sPt-sH0-ybaaCiwa75EGgTUE=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/Negotiable-Instrument-Final-58ad1fc79dd94a128d691991df9547f5.jpg)

*— Investopedia / Xiaojie Liu*

## What Is a Negotiable Instrument?

A negotiable instrument is a signed document that promises payment to a specified person or assignee. In other words, it is a formalized type of [IOU](https://www.investopedia.com/terms/i/iou.asp): a transferable, signed document that promises to pay the bearer a sum of money at a future date or on demand.

Negotiable instruments include personal checks, cashier's checks, money orders, [certificates of deposit (CDs)](https://www.investopedia.com/terms/c/certificateofdeposit.asp), [promissory notes](https://www.investopedia.com/terms/p/promissorynote.asp), and traveler's checks. The person receiving the payment, known as the [payee](https://www.investopedia.com/terms/p/payee.asp), must be named or indicated on the instrument. Some negotiable instruments, being transferable, may trade on a [secondary market](https://www.investopedia.com/terms/s/secondarymarket.asp).

### Key Takeaways

*   Negotiable instruments are signed documents that allow the transfer of funds to a specified person, acting much like a formalized type of IOU.  
    
*   Common examples include checks, money orders, promissory notes, and certificates of deposit (CDs), each with unique features and uses.  
    
*   These instruments emphasize security and flexibility by being easily transferable and ensuring the payee receives the payment amount specified without additional conditions.  
    
*   Despite their benefits, negotiable instruments carry risks such as potential theft, loss, and the possibility of dishonor if the obligated party fails to pay.

## How Negotiable Instruments Work

[Negotiable](https://www.investopedia.com/terms/n/negotiable.asp) instruments are transferable, so the holder can take the funds as cash or use them for a transaction. The fund amount listed on the document is the specific amount promised, and it must be paid in full either on demand or at a specified time.

A negotiable instrument transfers full legal title to the new holder when moved from one person to another.

These documents provide no other promise by the person or institution issuing them. In addition, no other instructions or conditions can be made for the [bearer](https://www.investopedia.com/terms/p/pay-to-bearer.asp) to receive the amount listed on the negotiable instrument. To be negotiable, an instrument must be signed by the maker, called the "drawer of funds."

> **Important**
>
> "Negotiable" means the note can be transferred, while "non-negotiable" means it is fixed and unchangeable.

## Common Types of Negotiable Instruments Explained

A personal check is a well-known negotiable instrument, acting as a draft payable by the payer's bank for the specified amount. A cashier's check functions similarly but requires setting aside funds for the payee before issuance.

Money orders are similar to checks but may or may not be issued by the paying party's financial institution. Often, cash must be received from the payer before the money order is issued. Once the recipient receives the money order, it can be exchanged for cash.

[Traveler’s checks](https://www.investopedia.com/terms/t/travelerscheck.asp) function differently, as they require two signatures to complete a transaction. At the time of issue, the holder must sign the document and provide a specimen signature. Once the payer determines to whom the payment will be issued, a [countersignature](https://www.investopedia.com/terms/c/countersignature.asp), or second signature, must be provided.

Traveler's checks are used for added security against theft or fraud when traveling abroad. However, they are now largely outmoded in favor of credit cards as an alternative to [hard currency](https://www.investopedia.com/terms/h/hardcurrency.asp) for travelers.

Other common types of negotiable instruments include bills of exchange, [promissory notes](https://www.investopedia.com/terms/p/promissorynote.asp), drafts, and CDs.

## What Is a Negotiable Instrument Used For?

A negotiable instrument promises a payment to a specified person or assignee. It is transferable, so the holder can take the funds as cash and use them as they see fit.

## What Is the Benefit of a Negotiable Instrument?

A negotiable instrument is easily transferable. There are no formalities and limited paperwork involved in making such a transfer. The instrument's ownership can be shifted simply by delivery or a valid endorsement.

## What Are the Drawbacks to a Negotiable Instrument?

One drawback of negotiable instruments is the risk of loss or theft. If they are lost or stolen, there is a potential for financial loss. Also, they are subject to the risk of dishonoring, meaning that the party obligated to make the payment fails to do so. In addition, negotiable instruments rely on verifying signatures to ensure their validity. However, signature verification can be subject to fraud or forgery, creating a risk to the parties involved.

## What Are the Two Kinds of Negotiable Instruments?

There are two basic types of negotiable instruments: [an order to pay](https://www.investopedia.com/terms/o/order_paper.asp) (which covers drafts and checks) and a promise to pay (which covers promissory notes and CDs).

## Key Insights on Negotiable Instruments

A negotiable instrument, such as a personal or cashier's check, is a document that promises payment of money to a particular person or entity. It's characterized as transferable: Ownership of the instrument can be handed over simply by delivery or by a valid endorsement. The most common types of negotiable instruments are personal, cashier's, traveler's checks, money orders, promissory notes, and CDs.

> **Article Sources**
>
> 1.  Cornell Law School - Legal Information Institute. "[Negotiable Instrument](https://www.law.cornell.edu/ucc/3/3-104)."
>     
> 2.  American Express. "[Travelers Cheques](https://www.americanexpress.com/us/travel/travelers-cheques/)."