Imagine you’re lending a friend money to help them launch their dream business. You’re excited about their venture, but you also want to ensure that the loan is taken seriously and repaid as agreed. This point is where a promissory note comes into play.
Having your friend sign a promissory note is like a financial handshake. It’s a written agreement that spells out the terms of the loan and gives you both peace of mind.
However, what is a promissory note, exactly? More importantly, what terms and clauses should you add to yours?
We’ll answer these questions and more. Read on to find out what a promissory note is and how to draft one.
What Is a Promissory Note?
A promissory note is a legally binding document that outlines a promise. More specifically, it contains and clearly states one party’s promise to pay a debt to another party. For example, I could owe $10,000 for various reasons (borrowed money, owner financed a car or business) and the promissory note will explain how much I owe, when payments are due, how much interests accrues, and other important terms.
Think of it as a roadmap for loans, laying out the “who,” “what,” “when,” and “how” of repayment. For instance, if you’re lending money to a budding entrepreneur, a promissory note clarifies the specifics, from the loan amount and interest rate to the repayment schedule.
It also works both ways. You can expect to see the same terms and conditions when you take out a loan or defer payments.
In short, this document provides clarity and structure to what might otherwise be a casual agreement.
What Clauses Are in a Promissory Note?
A well-constructed promissory note comprises several critical clauses that collectively define the terms of the agreement. These clauses are like building blocks that create a comprehensive framework for the loan arrangement.
The Parties Involved
You must identify the parties involved — the borrower and the lender. This initial clarity prevents any confusion down the line and holds borrowers accountable to pay back their loans.
Next comes the principal amount, which is essentially the initial sum being borrowed. This figure serves as the foundation for all financial calculations related to the loan.
Interest and Repayment Terms
If your agreement involves interest, you’ll want to outline the interest rate and specify how it’s calculated. This ensures that both parties understand the cost of borrowing and the subsequent repayments.
The repayment terms are crucial details as well. You’ll need to determine the schedule of payments — whether they’ll be made in installments over a period or as a lump sum on a specific date.
Consequences for Defaults
This part of the promissory note outlines the consequences if the borrower fails to meet their repayment obligations. It may include details about late fees, potential legal actions, or other consequences if the agreed-upon terms aren’t upheld.
Lastly, the promissory note should specify the governing law. This clarifies which jurisdiction’s legal framework will govern the enforcement of the agreement. This is particularly important if the parties involved are in different locations.
Craft Clarity in Commitments With Drafted Legal
At Drafted Legal, we understand that drafting promissory notes is no walk in the park. This is why we offer pre-drafted promissory notes that add clarity to any loan agreement.
Don’t let financial arrangements become a gray area. Visit Drafted Legal today to access our templates and other legal document packages.