Goldmann, Conford and Haneman. The opinion of the court was delivered by Conford, J.A.D.
This is an action on a negotiable promissory note by a holder in due course thereof against the maker. The note had been given to U.S. Homes, trading as National Homes, a firm in the business of home improvement, in connection with a contract to do certain improvements on the defendants' home. The note was for $2,435.40, payable in 60 monthly installments of $40.59, and plaintiff had purchased it the day after its execution for $1,800. At the trial, the defendants undertook to prove that at the time they signed the note it was blank and that it was attached to and a part of a credit application; that they did not know they were signing a note; and that the agent of U.S. Homes had represented to them that they were signing a credit application. Upon objection to this line of proof, the trial judge considered argument on the point in the absence of the jury, and then ruled that the facts outlined by the defendants' counsel in his proffer of proof, as aforestated, would be insufficient as a matter of law to defend against a holder in due course. Defendants conceded that the plaintiff was a holder in due course.
Upon suggestion of the court, the parties entered into a stipulation of settlement. The terms of the stipulation were that the plaintiff would accept as full satisfaction the sum of $2,350 if paid within 30 days; otherwise judgment would be entered in favor of the plaintiff for the amount sought in the complaint -- $2,814.85, plus interest and costs of suit. The third paragraph of the stipulation stated that if judgment were entered because of failure to make the stipulated payment, "the rights of the defendants to appeal from any of the rulings of the court rendered at the trial of the issues
joined as aforesaid shall be preserved to the said defendants." The stipulated payment was not made, and judgment was consequently entered.
The defendants assert two basic grounds of appeal. It is contended, first, that the instrument was incomplete at the time it was turned over to the payee by the defendants and never "delivered" by them to the payee as a note, and that therefore, under the Negotiable Instruments Law (R.S. 7:2-15), its subsequent completion and negotiation without authority from them did not make it a valid contract in the hands of the plaintiff. Second, it is argued that the signatures of the defendants on the note were procured by fraud in the factum, i.e. , such fraud as prevented the defendants' knowing that they were signing a negotiable instrument; and it is contended that this constitutes a "real defense" of the type which is invocable even against a holder in due course.
We address our attention to the last stated ground of appeal, as our conclusion thereon requires a reversal.
At common law, such fraud in the procurement of the execution of a note or bill as results in the signer's being ignorant of the nature of the instrument he is signing, sometimes designated as fraud in the factum , was held to be a real defense, i.e. , invocable even against a holder in due course, provided the maker or drawee was not negligent in failing to discover the actual character of the instrument. Britton, Bills and Notes (3 d ed. 1943), § 130, pp. 566 et seq.; Brannan, Negotiable Instruments Law (6 th ed. 1938), § 55, pp. 623-627; Note, "Real Defenses to Negotiable Instruments in New Jersey ," 7 Rutgers L. Rev. 405, 409-410 (1953). Such fraud was distinguished from "fraud in the inducement," where the signer was led by deception to execute what he knew to be a negotiable instrument, this being only a personal defense, not available against a holder in due course. The subject is discussed at length by Professor Britton in " Fraud in the Inception of Bills and Notes ," 9 Cornell L.Q. 138 (1924) and in his textbook, cited above.
There is apparently no New Jersey case giving express consideration to the question as to whether the common-law rule obtains in this State, notwithstanding the adoption of the Negotiable Instruments Law in 1902 (L. 1902, c. 184). That act does not expressly distinguish between fraud in the factum and other kinds of fraud, and provides that fraud (undifferentiated) renders defective the title of a person who obtained the instrument or any signature thereto by that means, R.S. 7:2-55, but does not affect the rights of a holder in due course, R.S. 7:2-57. Cf. Budget Corporation of America v. DeFelice , 46 N.J. Super. 489, 493 (App. Div. 1957), to the effect that fraud in the factum vitiates the delivery of the instrument by the defrauded person. Illustrating the rule that ordinary fraud will not avail as a defense against a holder in due course are such cases as Davis v. Clark , 85 N.J.L. 696 (E. & A. 1914); Auto Brokerage Co. v. Ullrich , 4 N.J. Misc. 808 (Cir. Ct. 1926); and Driscoll v. Burlington-Bristol Bridge Co. , 8 N.J. 433, 479-485 (1952).
In Colonial Discount Co. v. Bures , 8 N.J. Misc. 124 (Sup. Ct. 1930), affirmed o.b. 107 N.J.L. 374 (E. & A. 1931), the court sustained the striking as frivolous of an answer to an action on a note, given in connection with the purchase of a car, which defended on the basis of facts amounting to fraud in the factum. The opinion contains no discussion of the significance of the facts in terms of that specific kind of fraud, going off on the conventional rule that the holder in due course takes free of the defense of fraud. The decision thus has no value as a precedent for present purposes. Moreover, the facts there relied upon clearly bespoke negligence by the maker of the notes.
The great weight of authority elsewhere favors the defense of fraud in the factum against any holder, provided the maker was not negligent in failing to ascertain the actual character of the instrument. The rationale of the defense is the fundamental of contract law that one ...