What Is a Promissory Note?

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People acquire loans for a variety of reasons, including major purchases, debt consolidation and the cost of education. A promissory note is a type of document commonly found amongst loan paperwork.

Function

A person who signs a promissory note is making a promise to repay a debt to the borrower. It outlines the terms for repayment and is legally binding, which means that its execution can be enforced by a court of law.

Features

A promissory note outlines the people involved in the loan transaction, the amount of the debt, and the rate of interest. It also specifies the frequency of payments and the method used to calculate the amount of each payment.

Identification

In a promissory note, the promisor is the person who is receiving the loan while the promisee is the lender, and these words can be used interchangeably with the words obligor and obligee, respectively. Consideration is the amount that the borrower is granted and the rate of interest being paid to the lender.

Regulation

Most states have regulations and laws regarding the necessary wording of promissory notes to make them legally binding. There are also regulations to prevent the lender from using a promissory note to commit usury, which is assessing an unfair interest rate.

Considerations

A promissory note is not the same as having a lien on a piece of property, such as a mortgage or titled loan. If a loan is secured via a promissory note and the borrower files for bankruptcy, the lender must wait for all secured debts, such as mortgages and auto loans, to be settled prior to receiving reimbursement for their loan. This poses a risk for financial loss if a person’s debts far exceed their assets.

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