A promissory note is a signed, written promise by one person to pay another a stated amount of money on stated terms. It is the document that creates the debt, so if someone is paying you over time for a property or a business you sold, the note is the thing you own.
What the note sets out
A note names the borrower, also called the payer or maker, and the lender, called the payee or note holder. It then states the deal between them:
- The amount borrowed, called the principal.
- The interest rate.
- The payment amount and the day it is due.
- The date of the first payment and the date the debt must be paid in full, called the maturity date.
- What happens if a payment is late, including any late fee and grace period.
- Whether the borrower can pay early without a penalty.
- The borrower’s signature.
Some notes add a balloon, a large final payment due before the regular payments would have paid the loan off.
The note and the security instrument
People say “I hold the mortgage” when what they hold is a note together with a mortgage. The note is the debt, and the mortgage or deed of trust is a separate document that attaches the debt to a property.
| Promissory note | Security instrument | |
|---|---|---|
| What it does | Creates the debt and sets the terms | Ties the debt to a property |
| Common forms | Promissory note, installment note | Mortgage, deed of trust |
| Where it is kept | Normally with the holder | Normally filed in the county records |
| If the borrower stops paying | Gives you the right to be paid | Gives you a route to the property |
The security instrument is what makes a note “secured”. It gives you a lien, a legal claim against the property that you can enforce if the borrower defaults. Which instrument you have depends largely on the state, and a mortgage and a deed of trust differ mainly in how a default is handled.
What stands behind the promise
What secures a note is the main thing that separates one type of note from another. A note backed by a mortgage or deed of trust is secured by real estate. A note from the sale of a business may be secured by equipment, inventory or the business itself. A note with nothing pledged is unsecured, which leaves you the borrower’s promise and the right to sue on it.
The difference between secured and unsecured notes shows when a note is sold. A buyer asks what they could recover if the payer stopped, and real estate gives a clearer answer than a promise alone, so an unsecured note draws fewer bids and lower ones.
The original, and how ownership passes
The note is generally treated as an asset in its own right. Ownership passes when the holder signs it over to the next one, either on the note itself or on an attached page called an allonge. This is why a buyer asks for the original signed note and will not rely on a copy.
Keep the original somewhere safe and do not write on it. A sale may still be possible if it is lost, but the paperwork gets heavier, and because the rules on lost notes differ by state an attorney should guide that step.
Selling a promissory note
The right to receive the payments can be sold to a note buyer for a lump sum, provided nothing in the note restricts a transfer. The buyer pays less than the balance owed, and the gap is the discount. As an example, a $90,000 balance sold for $81,000 is a $9,000 discount, 10% of the balance. How large the gap is on a real note depends on the rate, the payments left, the payer’s record and what secures it, which are the facts the note pricing form asks for. Some notes can also be sold in part, with the holder keeping the later payments.
Reading your own note
Find the original and go through the terms listed above, noting the rate, the payment, the maturity date and any balloon. Check the back and any attached pages for earlier endorsements. If the note has changed hands before, each endorsement should name the next holder, and a buyer will want that chain of signatures to run unbroken to you.
Related questions
Does a promissory note have to be notarized or recorded?
Practice varies by state and by the kind of deal. The note itself is normally kept by the holder, and the mortgage or deed of trust that secures it is the document filed with the county. Ask an attorney or title company what applies to yours.
Is a promissory note the same as an IOU?
An IOU only admits that a debt exists. A promissory note goes further and sets out how and when it will be repaid, the interest, and what happens on default, which is what makes it something a buyer can price.
Who keeps the original promissory note?
The lender, or whoever currently owns the note. If a servicing company or attorney holds it for you, get written confirmation of where it is before you start a sale.