Promissory Notes

Relating to debtors and creditors, a Promissory Note is a binding contract containing a promise by the debtor (the promisor) to pay a certain amount of money to a creditor (the promisee) at a future date, usually with interest on the outstanding balance. Promissory Notes can come in the following forms:

• Single-name paper is a note signed by only one promisor;
• Double-name paper is a note signed by two or more promisors or signed by the promisor and endorsed by others. With additional promisors standing behind the note to guarantee payment, the likelihood of the creditor receiving payment is increased.
• A straight note is used for a lump-sum payment. It is the most common instrument, used as evidence of the indebtedness;
• A serial Promissory Note is used for installment payments. The total amount to be paid is retired by a series of payments, typically of equal amounts and at equally spaced maturity dates. Often, a serial Note contain an acceleration clause that states that in the event of a default in payment on any of the scheduled payments, all subsequent payments become due and payable. Thus, serial Promissory Notes with stated maturity dates are converted into demand instruments [a contract calling for immediate payment in full of the entire past due balance] under this provision if and when the promisor(s) fail to pay as agreed. 

Creditors can ask customers to sign a Promissory Note as a way to formalize restructuring of an outstanding debt, or to confirm contractually a payment schedule involving a past due balance. Many credit professionals believe correctly that a signed Promissory Note will make collection easier.  In addition, the fact that a delinquent debtor is willing to sign a Promissory Note is an indication that the debtor / promisor is serious about this commitment.  Converting an accounts receivable into a note receivable using a Promissory Note will include written acknowledgment for the debt.  The due date is negotiable.  There is no fixed term for a Promissory Note.  

The fact that signing the Note gives the debtor more time to pay is their incentive for signing it.  Their signature on the Promissory Note provides evidence of the existence and the legitimacy of the debt.  Since a Promissory Note can be interest bearing, in a sense a creditor can afford to carry the debt for a longer period of time.  If and when a creditor allows a debtor to convert an account payable into a note payable, missing a payment on a note payable is more serious than paying an invoice late.  The creditor should protest the late Payment to the president of the debtor company, or to whoever signed the promissory note.  That letter should demand immediate payment.  If the creditor is also selling on open-account terms, the debtor should be told that account is on hold until payment on the promissory note is received.

Reprinted with the permission of Credit Research Foundation.

Edited by Michael C. Dennis, author of "Credit and Collection Forms and Procedures Manual" and by Michael Zininberg