What Is Dishonor?

The term dishonor refers to the action of refusing to fulfill contractual obligations or pay a charge. Dishonoring a transaction can occur if a seller does not deliver the goods that were promised, or when the 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.

Key Takeaways

  • In the business world, dishonor refers to the action of failing to fulfill contractual obligations.
  • Dishonoring occurs when the seller does not deliver the products promised or fails to do so on time, or when a buyer does not pay for what they agreed to buy.
  • Dishonoring a contract tends to have immediate and detrimental consequences, such as the suspension of service, the charging of fees, or even the damaging of credit.
  • If the contract is later honored, or the overdue payment finally made, the party that dishonored the initial contract may find it is charged additional fees to have service reinstated, or a sale transaction concluded.

Understanding Dishonor

A notice of dishonor is a notice given by the holder of a payment instrument to the endorser or drawer, notifying him or her that the payment has been dishonored, or refused. For example, a check that is returned unpaid because there are insufficient funds for payment in the account on which it is drawn may be accompanied by a notice of dishonor, informing the drawer that the payment has been dishonored.

A notice of dishonor must identify the bill, note, or instrument being dishonored and give notice to all required parties within a reasonable period of time.

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 agreed to pay a monthly fee for telephone service. If you were unhappy with the service and decided to protest by refusing to pay the fee, 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 may be imposed for dishonoring a contract or providing as payment a negotiable instrument that cannot be honored. If in the above example, you eventually produced payment for your telephone service, the company would reserve the right to charge an additional fee in order to reinstate your contract, because you dishonored it.

In some cases, dishonoring a contract may leave you liable to pay any funds still owed according to the terms of the contract.

When a negotiable instrument is dishonored, such as in the case of a returned or bounced check, for example, 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 for overdrawing an account.