Dishonor Definition

What Is Dishonor?

Dishonor, in the business world, is the action of refusing to fulfill contractual obligations or pay a charge. Dishonoring a transaction can occur if a seller does not deliver promised goods or when a buyer does not provide payment for goods received.

In contracts, a party may dishonor the agreement by altering the specifications, delivering late payment or goods, or failing to act on their required duties. When a party has broken an agreement or promise, they are said to be dishonored. Dishonoring a contractual obligation can be viewed as a breach of contract and has legal consequences.

Understanding Dishonor

Contracts are governed by your state's Uniform Commercial Code (UCC), which explicitly define dishonor and the actions that can be taken if an entity dishonors a contract.

UCC Article 3 - Negotiable Instruments generally governs dishonoring a contract. For instance, North Carolina General Statutes Chapter 25 - Uniform Commercial Code, Article 3, Negotiable Instruments, § 25-3-502 defines and governs dishonor.

A notice of dishonor is given by the holder of a payment instrument to the endorser or drawer, notifying them that the payment has been dishonored or refused. For example, a check that is returned unpaid because there are insufficient funds in the account may be accompanied by a notice of dishonor. This notice serves as the official notification that the contract has been dishonored.

Consequences of Dishonored Payments and Contracts

In most cases, dishonoring a contract may result in the other party terminating its obligations. For example, let's say you have a contract in which you agree to pay a monthly fee for telephone service. If you were unhappy with the service and decided to protest by refusing to pay, you would be dishonoring the contract. As a result, the phone company will likely cut off your service, thus terminating your contract until you produce the payment.

A fee or penalty might be imposed for dishonoring a contract or providing as payment a negotiable instrument that cannot be honored. If you eventually produced payment for your telephone service in the above example, the company would reserve the right to charge an additional fee to reinstate your contract because you dishonored it.

When a negotiable instrument is dishonored, such as in the case of a returned or bounced check, this, too, may incur a fee from the bank or institution on which the instrument is drawn. For example, most banks charge a fee for paying a check drawn on an account with insufficient funds or overdrawing an account.

The Bottom Line

Dishonor is the act of not complying with a contract by not delivering your end of the deal. Many statutes include language that specifies what dishonoring the contract is and the consequences of doing so.

State laws generally govern contract dishonor, so it's best to consult an attorney familiar with contract law in your state to find out what constitutes dishonor where you live.