When we lend money to someone, it is most likely that we have written an informal IOU. However, if you’re providing a substantial sum of money to relatives or friends, such as a personal loan, it’s a good idea to prepare a formal promissory note, just as if you were a bank lender.
A proper promissory note is beneficial to both the lender and the borrower.
A promissory note, sometimes known as a “promise to pay,” is a financial agreement between a lender and a borrower in which the lender commits to provide money to the borrower in exchange for interest.
It provides customers with a written agreement that includes the loan charges, repayment obligations, and any collateral requirements.
The note holds the borrower responsible for repaying the money according to the terms agreed upon. If the borrower does not repay the debt, they will be in default and their assets would be seized.
Here’s all you need to know about writing a personal loan promissory note.
Table of Contents Hide
- What Is a Promissory Note?
- When Should a Promissory Note Be Used?
- What Is a Promissory Note in Writing?
- What are the Different Types of Promissory Note?
- #1. Student Loan Promissory Note
- #2. Real Estate Promissory Note
- #3. Promissory Notes for Personal Loans
- #4. Car Promissory Note
- #5. Commercial Promissory Note
- #6. Investment Promissory Note
- #7. Installment Payment Promissory Note
- #8. Installment Payments with a Final Balloon Payment
- #9. Due on Demand or Default
- How does a Promissory Note Work?
- Step-by-Step Instructions for Writing a Promissory Note
- When Should I Use a Promissory Note?
- What Does a Promissory Note Contain?
- When the Loan Is Repaid, What Happens Next?
- Is it Legally Binding to Sign a Promissory Note?
What Is a Promissory Note?
You probably signed a promissory note if you’ve ever borrowed money from a lender.
A promissory note is a legally enforceable contract that outlines all the terms of the loan. It’s a contract that spells out the loan amount, payback terms, loan fees, and what the lender can do if the borrower defaults on the loan.
As a borrower, you agree to the loan’s terms and commit to paying it back when you sign a promissory note.
Promissory notes are most commonly associated with taking out a personal loan, a school loan, or any other type of credit from a bank or lender. We do, however, lend money to friends and relatives occasionally. We frequently give them money as an unofficial or even verbal IOU.
However, this might quickly backfire. What if, for example, your nephew flees town with your $5,000? What if your aunt is taking her time repaying you when you absolutely need the money right now? A formal promissory note can aid in resolving such issues.
When Should a Promissory Note Be Used?
When you lend someone money and expect to be reimbursed, use a promissory note.
On the other hand, signing a promissory note if you borrow money from someone who might be displeased if you don’t pay it back is a smart idea.
Most people don’t write promissory notes for paltry sums of money, such as recognizing someone at dinner or filling up a gas tank.
However, if you’re going to lend someone a few hundred or thousand dollars, you’ll want to make sure you have a proper promissory note in place so everyone agrees.
What Is a Promissory Note in Writing?
A promissory note, also known as a note payable, is a legally enforceable instrument that the borrower signs while taking out a loan and promising to repay the lender.
The promise of repayment is usually made for a specific period or on-demand.
Promissory notes are used to control the relationship between a lender and a borrower. They decide on the transaction’s terms and circumstances.
What are the Different Types of Promissory Note?
Promissory notes come in a variety of shapes and sizes, which often correspond to the loans for which they are written. The following are some examples of promissory notes:
A basic promissory note is a written guarantee that money borrowed will be returned to the lender in the manner agreed upon. It does not specify the loan’s purpose.
#1. Student Loan Promissory Note
A student loan promissory note, also known as a government master promissory note, is an agreement between a borrower and the government that they would repay their student loans with interest.
Most promissory notes for student loans are between the borrower and the government, however, students may also create promissory notes with their parents or relatives who give funds for their study.
#2. Real Estate Promissory Note
The borrower uses their property as security in a real estate promissory note. The lender can put a lien on the collateral if the borrower defaults.
The information becomes a public record, which affects the borrower’s credit.
#3. Promissory Notes for Personal Loans
A personal promissory note is used to document a loan between friends or family members.
#4. Car Promissory Note
A car promissory note is used when a car is sold or exchanged. It establishes a contract in which the borrower agrees to make payments to the lender for a vehicle.
To record loans, other cars go through the same process of issuing a vehicle promissory note.
#5. Commercial Promissory Note
When money is borrowed from a commercial lender, such as a bank or a loan agency, a commercial promissory note is employed.
The lender can seek full repayment of the loan plus interest if the borrower defaults or cannot make timely payments.
Until the lender receives all repayments, the lender may place a lien on the borrower’s assets.
#6. Investment Promissory Note
An investment promissory note is a type of business loan that is frequently used to raise funds for a company. They assure an investor receives a return on their investment over a specified time period.
This lowers the risk of making a company investment. If the borrower cannot pay, the investor may take over the business.
Promissory notes can also vary depending on the method of payment:
#7. Installment Payment Promissory Note
When gaining expensive things, an instalment payment promissory note is commonly employed.
Payments are separated into batches or sent in instalments.
#8. Installment Payments with a Final Balloon Payment
Instalment payments with a final balloon payment are commonly utilized in mortgage loans. The borrower makes little payments over time before making a huge payment all at once.
Promissory notes that are due on a specified date (DOSD) compel the repayment of a loan or obligation before a specific date.
#9. Due on Demand or Default
A due on demand or default promissory note is a pay-as-you-go type of note that is commonly used for modest loans between family and friends.
How does a Promissory Note Work?
A promissory note differs from a loan agreement or mortgage note because it is a commitment to repay a loan. While all three documents document a loan, the loan agreement contains a more complete summary of the transaction.
A loan agreement provides crucial information and terms that government repayments, disputes, and other issues. Both the lender and the borrower must sign the loan agreement.
A promissory note is nothing more than a written promise from the borrower to repay the loan. It merely requires the borrower’s signature.
Step-by-Step Instructions for Writing a Promissory Note
Follow the simple steps below to create your own promissory note:
The date on which the promissory note was created should be included at the top of the page.
- Amount: Specify the total amount borrowed. This eliminates the possibility of future disagreements and changes.
- Loan Terms: it should also include the loan terms in the note. It should specify how and when the loan will be repaid. There are particular dates and timelines included.
- The Interest Rate: The loan’s interest rate should be mentioned and whether the loan is fixed or variable, it should state that part too.
Providing security to a lender often decreases the interest rate on a loan. Secured loan are what they’re called. The promissory note should include information on the collateral and its value if it secures the loan.
- Default terms: The promissory note should also include any default terms.
Information about the lender and the borrower: This section contains information about all parties involved in a loan. It includes information about the lender and the borrower, such as addresses and phone numbers.
- Signatures: In order for the note to be legally enforceable, all parties must sign it. Promissory notes usually just require the signature of the borrower who is making the guarantee.
- Release of Promissory Note: Once the loan has been repaid, the parties’ obligations under the promissory note can be terminated. To do so, you’ll need to issue a promissory note release.
When Should I Use a Promissory Note?
The following situations may cause the usage of a promissory note:
- Student Loans: You can use a student loan promissory note to show that you will repay your student loans if you are borrowing money for educational purposes.
- Car Loans: If you’re purchasing a vehicle, such as a car, you can use a car promissory note to guarantee the lender that you’ll pay back the loan on time.
- Business Loans: If you need money to invest in your business or establish one, you may use a business promissory note to assure the lender that you will repay the loan according to the conditions and timetable agreed upon.
- Personal Loans: If you’re borrowing money from relatives or friends, a personal promissory note might be used to guarantee repayment under certain conditions.
What Does a Promissory Note Contain?
A promissory note must have particular details in order to be valid and legally binding.
According to Wheeler, a promissory note should include information such as the amount borrowed, the repayment schedule, and whether the loan is secured or unsecured. That’s not all, though.
In fact, a legally binding promissory note involves quite a little information. If you’re signing a promissory note, make sure it contains the following information:
At the top of the page, the promissory note should include the date it was created.
Just like writing a check, the amount borrowed should be expressed in figures and spelt out in words. This eliminates the possibility of the due amount being misinterpreted or manipulated.
If the promissory note is for $5,789, it should also include the words “five thousand seven hundred eighty-nine dollars.”
#3. Conditions of the Loan
The loan terms spell out how the loan will be repaid, including how frequently payments will be made (monthly, quarterly, or yearly), when the first payment is due, and when the last payment is due.
Rather than unclear timelines, exact dates should be used.
#4. The Interest Rate
This information specifies whether the loan will incur interest and, if so, what the rate will be, as well as whether the interest rate will be fixed or variable.
The interest rate, like the loan amount, should be expressed as a percentage and written in long-form. Wheeler also points out that the interest rate must adhere to state usury regulations.
Some loans are secured by collateral in the event that the borrower is unable to repay the loan. Secured loans are what they’re called.
If collateral backs the loan, the promissory note should include the type and value of the asset. Perhaps the borrower is pledging a piece of real estate as collateral.
A description of the property, including whether it is commercial or residential, its value, and its address, should be included in the promissory note. “Not all promissory notes are guaranteed by security,” Schorr points out.
“A promissory note can be enforced by filing a breach of contract claim.” To put it another way, a secured loan isn’t required; an unsecured loan is still enforceable as long as it properly completed the promissory note.
#6. Information About The Lender And The Borrower
The names and contact information of everyone involved in the loan are listed in this section.
It shows who the lender is and who is the borrower, as well as the mailing address or digital destination where payments are to be transmitted.
Finally, all parties must sign and date the promissory note for it to be enforceable, according to Wheeler. Both the borrower and the lender confirm that they understand the terms and their responsibilities in this way.
“It’s also a good idea to get a promissory note notarized,” adds Schorr, “so the lender can be sure that the individual is delivering the loan payback pledge.”
When the Loan Is Repaid, What Happens Next?
It’s a good idea to relieve everyone of their responsibilities once the debt is paid off. A release of a promissory note or another document showing that the debt is complete and paid in full might accomplish this.
Although there’s no way to completely shield yourself from any claims, litigation, or other concerns stemming from a loan you took part in, the release agreement can help you defend yourself if something like that happens.
When all parties have completed all the obligations stipulated in the original contract, a promissory note release is appropriate. Each party should examine if it satisfies them with the way the loan terms were fulfilled.
If any collateral was used to secure the loan, the release should state that the lien or other hold on it has been lifted.
A reference to the original promissory note and its date, as well as the original loan amount, should be included in the release. The release should state that the contract has been met and that the borrower is no longer liable.
And, just like the original note, it should include the names and contact information for all people involved.
The lender and the borrower should both sign and date the promissory note release. It can also include a copy of the original promissory note with a notation that says “paid in full” or “cancelled” as an added precaution.
Again, having this document notarized is an extra step you may take to assure its authenticity and the fact that it cannot be challenged afterwards.
Is it Legally Binding to Sign a Promissory Note?
Promissory notes are legally binding as long as the information listed above is present. Courts favour lenders over borrowers in disputes because it is simple for lenders to prove that they made a loan and expected payment in return.
However, if you’re a small firm or an individual, you might be concerned about a promissory note dispute. In that scenario, get advice from a professional.
Consult a small business lawyer or accountant for assistance in establishing an account receivable system.
Finally, your promissory note can be notarized. Notaries can be found at many banks and government offices, and for a minor charge, they will officiate the signing of the document by both parties.
A promissory note is a legally enforceable contract between a borrower and a lender. While they aren’t overly hard, following a simple promissory note sample and following the steps to make it legally enforceable is vital.
There are a variety of reasons you might need to draft a promissory note, but there are a few crucial aspects that must be included to ensure that the note is legitimate.
We hope the above information guides you on how to write a good promissory note for a personal loan.
- forbes.com – How To Easily Write A Promissory Note For A Personal Loan To Family Or Friends
- contractscounsel.com/ – How To Write A Promissory Note
- loans.usnews.com – How to Write a Promissory Note