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Promissory Note: Definition, Example and Related Terms

What is a Promissory Note ?

A promissory note is a financial instrument that contains a written promise from one party (the note's issuer or maker) to pay another party (the note's payee) a definite sum of money, either on demand or at a specified future date. It acts as a formal, legally-binding agreement that outlines the terms of the loan, including the repayment schedule and interest rate.

Promissory notes are commonly used in business to secure loans or other financial transactions. They provide clear evidence of the debt and the terms under which it will be repaid, giving both parties legal recourse if the terms are not met.

For example, if a business needs to borrow money to purchase new equipment, it might issue a promissory note to the lender. The note would specify the amount borrowed, the interest rate, the repayment schedule, and any other relevant terms. This ensures that both parties are clear about the obligations and expectations.

Understanding the terms and conditions of a promissory note is crucial for both the issuer and the payee. It helps to prevent misunderstandings and disputes, and ensures that the financial transaction is conducted smoothly and legally.

Example(s)

  • Scenario Description
    A Startup Needs Funding A startup company needs funding to develop its new product. The founder issues a promissory note to an investor, promising to repay the loan amount plus interest within one year. The note outlines the total amount to be repaid, the interest rate, and the repayment date.
    Personal Loan Between Friends A person borrows money from a friend to cover unforeseen expenses. To formalize the agreement, they create a promissory note specifying the amount borrowed, the repayment date, and that no interest will be charged. This ensures that both parties understand the terms of the loan and have a written record of the agreement.