A promissory note is a legal, financial tool declared by a party, promising another party to pay the debt on a particular day. It is a written agreement signed by drawer with a promise to pay the money on a specific date or whenever demanded.
This note is a short-term credit tool which is not related to any currency note or banknote.
Promissory notes, as well as bills of exchange, are governed by the 1930s international convention, which also stipulates that the term “promissory note” should be inserted in the body of the instrument and should contain an unconditional promise to pay.
In terms of their legal enforceability, promissory notes lie somewhere between the informality of an IOU and the rigidity of a loan contract. A promissory note includes a specific promise to pay, and the steps required to do so (like the repayment schedule), while an IOU merely acknowledges that a debt exists, and the amount one party owes another.
A loan contract, on the other hand, usually states the lender’s right to recourse such as foreclosure in the event of default by the borrower; such provisions are generally absent in a promissory note. While it might make note of the consequences of non-payment or untimely payments (such as late fees), it does not usually explain methods of recourse if the issuer does not pay on time.
Promissory notes that are unconditional and salable become negotiable instruments that are extensively used in business transactions in numerous countries.
Types of Promissory Notes
Depending upon the kind of promissory loan, notes are of different types. Few are mentioned below.
- Personal Promissory Notes
This is a particular loan taken from family or friends. Though people avoid legal writings when seeking a loan from close contact, the promissory note shows belief and trust in the interest of the borrower.
Here, the note is made when dealing with commercial lenders such as banks. Most of the commercial promissory agreement is similar to personal notes.
- Real Estate
This is similar to commercial notes in terms of nonpayment consequences. If the borrower becomes a defaulter, then the party has the right to keep the property until the debt is cleared. It is a little risky as all the essential details become public, which can hinder the borrower’s credit history in the future.
The promissory note is occasionally used to raise funds for the business. It is used as a security purpose and managed by securities laws. It includes terms and conditions related to returns of investment.
Parties of Promissory Note
All promissory notes constitute three primary parties. These include the drawee, drawer and payee.
- Drawer: A drawer is a borrower or debtor who promises to pay the debt to the moneylender.
- Drawee: She/He is an individual, in whose favour the note is prepared. She/He is the creditor and provides goods or services on credit or lends capital.
- Payee: A payee is someone to whom the payment is made.
Most of the times, the payee and drawee are the same people to whom the cash is paid. The party who has loaned the money keeps the promissory note, and when the due is cleared, the payee or drawee cancels the note and gives it to the drawer/payee.
Features of Promissory Note
- Printed/Written Agreement
A promissory should be in writing, and an oral promise to pay money is not accepted.
- Pay Defined Amount
It is a promise to pay the money on a particular time or when demanded. The mentioned amount can neither be added or subtracted.
- Signed Documents
The document is duly signed and drawn by the drawer and stamped.
- Unconditional Promise
The promise to pay a certain amount of money must be absolute in all cases. In such notes, a conditional guarantee is not accepted.
- Legal Composition
All the payment should be made in the nation’s legal currency.
- Detailed Information
The note has all the required information including the name of the drawer and payee, date of maturity, terms of repayment, issue date, name of the drawee, name, and signature of the drawer, principal amount, and the rate of interest, etc.