How Does a Promissory Note Work?
A promissory note is a legal document that allows companies and also individuals to get financing from a source other than a bank. Thankfully, here in the U.S. banks don't have a monopoly on lending, you can legally loan some one money with a promissory note. Any one can become a lender.
Promissory notes are debt instruments that are like a legal IOU. Terms are drawn up and agreed upon by both the lender and the recipient. The recipient signs the document and is from there on legally binded to uphold his/her end of the bargain. Money owed from a debtor who refuses to pay can be easily collected in small claims court, or a general civil suit. The terms agreed upon can include things like interest rate, a repayment schedule, and the consequences of default (failure to uphold obligations).
Promissory notes are often times used by companies to create additional corporate credit when they can no longer get additional lending through a bank. Lenders who issue these notes can even turn around and sell them to another buyer. Investors can even have these notes reviewed by the Securities and Exchange Commission to ensure the company is able to repay its debt.
Another popular use for promissory notes is to get a loan for a home when there is no credit or not enough credit available to them from a bank. This is used mainly by people who are self-employed with a widely varying income from month to month. Creditors tend to discriminate against these types of people. If your income has dropped creditors will definitely discriminate against you no matter how much income you've saved. For those who have these conditions then they have no other choice.
When creating a promissory note, it is a good idea to get it notarized so that the obligation is publicly recorded and legal. This will make all the terms and conditions legally binding, and any violation will not be tolerated in court.
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