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If you are starting up your own business or enterprise, there may come the point when you have to take out a loan to fund your commercial activities. This is a standard part of the start-up process. Therefore, it is important to know the various forms and documents you can use to pay back that loan and to outline the exact parameters of how you plan to do so. One such document you can use is a promissory note. This is a written promise that specifies how much you have to pay back and how that is going to happen. This article will explain what a promissory note is and how it works, as well as when you would use one.

What Is a Promissory Note?

Under New Zealand law, a promissory note is an unconditional promise you draft, promising to pay back a certain sum of money to another person. It is legally binding. This can be paid either on demand by who is lending you the money or by a specified date. As the person who draws up the note, and the one who is borrowing the money, you have to sign it.

However, the lender typically does not have to sign it as well. Sometimes a promissory note is called an “IOU”, but it is a bit more formal than that. The note usually outlines how you plan to pay the lender back on top of the specified sum that you have to pay back. You can register it as security collateral in your financing statement on the Personal Property Securities Register as well.

A promissory note would typically include:

  • who each of the parties is;
  • the amount of money being loaned (called the “Principal”);
  • the date the lender will transfer the money to the borrower, or whether the lender can demand the money back (the “Maturity Date”);
  • the signature of the borrower;
  • whether you can transfer the note to someone else;
  • interest rates, if they are applicable; and
  • how the borrower will pay back the lender.

You could also include what happens if the borrower cannot make the payments by the specified future date or when the lender demands the money back.

When Is It Appropriate to Use a Promissory Note?

In the course of usual business, you use a promissory note when you are borrowing money from a non-traditional lender, such as an individual or a company, rather than a bank or credit union.

You would also generally use it to borrow lower sums of money. For example, say you want to borrow $1000 from a friend, but you want something written down to outline how exactly you plan to pay them back. You also want something to give them a bit of security in the guarantee that you will do so. A promissory note would fulfil this purpose, without having to go to the trouble of drafting up a detailed loan agreement. 

You would use a more complex agreement, such as a loan agreement, if you wanted a more formal and comprehensive document to outline your loan. You may use a loan agreement if you:

  • do not know the party you are borrowing money from; 
  • there are multiple lenders; or
  • it is a substantial sum of money. 

It typically would go into far more detail than a promissory note. For example, both the lender and borrower would need to sign a loan agreement, whereas only a borrower would need to sign a note.

There are a variety of scenarios where you would use a promissory note as a promise to pay back a loan. For example, when:

You can also use a promissory note if you are purchasing something, and you cannot pay the full purchase price upfront. You would draft it up outlining how much you have left to pay, how you intend to pay it back, and by what date you need to do so.

Key Takeaways

When you take out a loan, it is always a good idea to have some form of written record documenting this fact. What kind of loan it is, what you are using it for, how much money you are borrowing, and who you are borrowing from will determine how complex this written record needs to be. A promissory note is one such document, that is simple and straightforward. It will generally include: 

  • who the parties are; 
  • how much is being lent; and
  • when it is being paid back.

The borrower will also need to sign the note, as it is legally binding. If you would like more information or help with drafting up a promissory note, contact LegalVision’s corporate lawyers on 0800 005 570 or fill out the form on this page.

What is a promissory note?

A promissory note is a simple and straightforward document that provides a written record if you borrow money from someone. Only the borrower needs to sign it.

When do I use a promissory note?

You typically use a promissory note when you are borrowing money from a non-traditional lender. These could be an individual or a company rather than a bank or a credit union. Some industries also use these as their form for recording loans.

Is a promissory note binding?

A promissory note is binding as soon as the borrower signs it. It also can be used as a security interest, and there can be legal consequences if the borrower does not pay back the money they owe.

What do you put in the promissory note?

You should include the nature of the loan, in simple terms. Also, how much is being borrowed, who each of the parties is, when that money is being paid back and how the borrower will do so.

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