The promissory note can be an extremely useful, versatile and common type of legal contract. You probably signed one if you’ve bought a home. Most people remember their mortgage, but it was the promissory note that bound you to repaying the loan, allowing you to move in and start living at your new address.
Nuts and bolts of a promissory note
At its heart, the promissory note is simple and just what its name suggests, a promise written down. It’s almost always used for loans, and the person getting the loan signs a promissory note for the lender to keep as a legal guarantee of repayment.
If properly drawn up, the basic note typically states the amount borrowed, the schedule for repayment, and the interest paid. It will likely include some or all of the following.
- Who is borrowing from whom.
- How much is being borrowed.
- When the loan will be paid back (lump sum on a specific date, annual installments on the first of January, etc.).
- How much interest is being charged.
- Penalties for late or missed payments.
- How the loan will be secured.
That last item requires a little explanation. Securing a loan means a more complex agreement and normally requires an attorney’s help. Loans can be secured with tangible personal property like vehicles or a valuable collection, or intangible things like copyrights or ownership in a business. Real estate or homes are also an option.
Common uses for promissory notes
A properly drafted note is a legal contract that can be used in innumerable situations.
Money loaned between friends and family commonly involves a promissory note, although probably not commonly enough since they’re a great way to build a healthier, happier and more secure loan between people who know each other personally. As stated above, private home loans usually use them, but banks also commonly use promissory notes for small business and other loans.