Promissory Note
A promissory note is the borrower's written promise to repay a loan, containing the loan terms including principal amount, interest rate, payment schedule, and maturity date. It is the "IOU" document that creates the debt obligation, separate from the mortgage or deed of trust that secures the loan with property.
Exam Tip
Promissory note = the IOU, creates debt obligation. Mortgage/Deed of Trust = security instrument, creates lien. Note is NOT recorded; security instrument IS recorded. Maker = borrower, Payee = lender.
What is a Promissory Note?
A promissory note is a legal document in which the borrower makes an unconditional promise to repay a specific sum of money to the lender. It's essentially an "IOU" that creates the debt obligation in a real estate loan transaction.
Key Promissory Note Elements
| Element | Description |
|---|---|
| Principal Amount | Total amount borrowed |
| Interest Rate | Annual percentage rate (fixed or adjustable) |
| Payment Amount | Monthly payment due |
| Payment Schedule | When payments are due |
| Maturity Date | When loan must be paid in full |
| Late Fee Terms | Penalties for late payments |
| Prepayment Terms | Rights to pay off early |
| Default Provisions | What constitutes default |
Promissory Note vs. Mortgage vs. Deed of Trust
| Document | Purpose | Creates | Parties | Recorded? |
|---|---|---|---|---|
| Promissory Note | Borrower's promise to pay | Debt obligation | Borrower & Lender | NO |
| Mortgage | Secures the loan | Lien on property | Mortgagor & Mortgagee | YES |
| Deed of Trust | Secures the loan | Lien on property | Trustor, Beneficiary & Trustee | YES |
The Two-Document System
In real estate financing, two documents work together:
| Document | Role | Analogy |
|---|---|---|
| Promissory Note | Creates the debt | The "IOU" |
| Mortgage/Deed of Trust | Secures the debt | The "collateral agreement" |
Promissory Note Terminology
| Term | Definition |
|---|---|
| Maker | The borrower who signs the note |
| Payee | The lender who receives payment |
| Holder | Current owner of the note |
| Negotiable Instrument | Note that can be transferred |
Mortgage vs. Deed of Trust States
| Document Type | Foreclosure Process | Parties Involved |
|---|---|---|
| Mortgage States | Judicial (court process) | Borrower (Mortgagor), Lender (Mortgagee) |
| Deed of Trust States | Non-judicial (faster) | Trustor (Borrower), Beneficiary (Lender), Trustee |
What Happens to the Promissory Note
| Stage | Action |
|---|---|
| At Closing | Borrower signs note; lender holds it |
| During Loan | Lender may sell or transfer note |
| At Payoff | Note returned to borrower marked "Paid" |
| At Default | Note used as evidence of debt |
Negotiability of Promissory Notes
Promissory notes can be sold or transferred:
| Transfer Type | Description |
|---|---|
| Assignment | Note transferred to new holder |
| Endorsement | Signed over like a check |
| Holder in Due Course | Purchaser who takes note in good faith |
Important Note Provisions
| Provision | Purpose |
|---|---|
| Acceleration Clause | Allows lender to demand full balance upon default |
| Due-on-Sale Clause | Requires payoff if property is sold |
| Prepayment Clause | Terms for paying off early |
| Late Charge Provision | Penalty for late payments |
Exam Alert
Key exam points for Promissory Note:
- The promissory note is the "IOU" - the borrower's promise to repay
- Creates the DEBT obligation (not the security interest)
- The Mortgage or Deed of Trust secures the note with property
- Promissory notes are typically NOT recorded (security instrument is)
- Maker = borrower; Payee = lender
- Note contains: principal, interest rate, payments, maturity date
- Note is negotiable - can be sold to another holder
- Two documents needed: Note (debt) + Mortgage/Deed of Trust (security)
Study This Term In
Related Terms
Mortgage
Real EstateA mortgage is a loan used to purchase real estate, where the property serves as collateral, typically repaid over 15-30 years with interest.
Deed of Trust
Real EstateA deed of trust is a security instrument used instead of a mortgage in some states, involving three parties: the borrower (trustor), lender (beneficiary), and neutral third party (trustee) who holds legal title until the loan is paid.
Foreclosure
Real EstateForeclosure is the legal process by which a lender takes ownership of a property when the borrower fails to make mortgage payments, typically after several months of default.