WHAT IS A PROMISSORY NOTE?

A promissory note is a written promise to pay money. See California Commercial Code sections 3103(a)(9) and 3104(e). If you lend or borrow money, you should put the transaction in writing in the form of a promissory note. Though usually provided by the lender, a promissory note need only be signed by the borrower.

You can quickly and easily prepare a Unsecured Promissory Note using the Intelligent Questionnaire for Unsecured Promissory Note  (Lump Sum Payment of Principal). The built-in calculator will help you accurately input all your loan terms.

Please see the restrictions on using this website's promissory notes in the Things to Consider section below.



WHAT ARE SOME USEFUL DEFINITIONS TO KNOW?
The following definitions are useful in helping you better understand the Unsecured Promissory Note form.

UNSECURED PROMISSORY NOTE: A promissory note for which no collateral (some form of property) has been pledged. If the debtor does not pay, the creditor has no property to seize, and may look only to the debtor for repayment.


NEGOTIABLE PROMISSORY NOTE: A promissory note that may be "negotiated" - in other words, transferred to another person whereby the transferee (person to whom transferred) becomes the holder of the note. This becomes relevant for people that may want to sell their promissory note at a later time. Most people do not realize that all promissory notes are not negotiable. To be negotiable, a promissory note must comply with the requirements of California Commercial Code section 3104. Please note that all the promissory notes prepared using this website are negotiable.

MAKER: The borrower. In statutory language, it is "a person who signs or is identified in a note as a person undertaking to pay." See California Commercial Code section 3103(a)(5).

PAYEE: The lender.

BALLOON PAYMENT: The final payment of an installment loan that pays off the entire remaining amount of the loan. It is significantly larger than any installment payment.



WHAT IF THERE ARE TWO LENDERS OR BORROWERS?

If There Are Two Lenders (Payees)
When a promissory note is payable to two payees jointly, it is payable to both of them. When a promissory note is payable to two payees alternatively, it is payable to either one of them. If a promissory note is ambiguous on this point, it is presumed to be payable alternatively per California Commercial Code section 3110(d). If you use the Intelligent Questionnaire for Unsecured Promissory Note  (Lump Sum Payment of Principal) to prepare your unsecured promissory note, you may select how you want your note to be payable.

If There Are Two Borrowers

If you have two borrowers, they are presumed to have joint and several liability pursuant to California Commercial Code section 3116. This means that each borrower is liable for the entire amount of the promissory note, but may seek to be reimbursed from the other borrower. California Civil Code section 1432).



HOW DO I PREPARE AN UNSECURED PROMISSORY NOTE?

The first step is to decide how the borrower will repay the loan. After that, our Intelligent Questionnaire for Unsecured Promissory Note  (Lump Sum Payment of Principal) with its built-in loan calculator makes it very easy for you to correctly prepare your unsecured promissory note.

Keep reading to learn about the different ways a borrower can repay a loan, and what additional terms you may want in your unsecured promissory note.



WHAT DIFFERENT WAYS CAN A BORROWER REPAY A LOAN?

There are really 2 main ways to repay a loan, though each method has variations. If you use this website, you will need to select one of the 2 main ways explained below, and then use the built-in calculator to make your variations:

A. LUMP-SUM PAYMENT OF PRINCIPAL

  1. With A Single Payment Of Interest
    With this type of loan, the borrower repays the amount of principal borrowed, together with interest, in one lump sum payment at a given time (or before that time if prepayment is allowed). No installment payments of any kind are made.

    EXAMPLE: Joe borrows $1000 from Bob on January 1, 2004 for a period of 1 year at 10% annual interest. On January 1, 2005, Joe pays Bob back $1100.00.

  2. With Installment Payments Of Interest
    With this type of loan, often referred to as an "Interest-Only Loan", the borrower repays the amount of principal borrowed in one lump sum payment at a given time (or before that time if prepayment is allowed), but makes installment payments of interest only at chosen time periods.

    EXAMPLE: Joe borrows $1000 from Bob on January 1, 2004 for a period of 1 year at 10% annual interest, with quarterly interest installments. On April 1, 2004, July 1, 2004, and October 1, 2004, Joe pays Bob $25 for interest. On January 1, 2005, Joe pays Bob $1025 for the principal borrowed and the final $25 of interest payable.

B. INSTALLMENT PAYMENTS OF PRINCIPAL
  1. Fully Amortized
    With this type of loan, the borrower repays the principal and interest in equal consecutive installments until all amounts due are paid. Each installment payment pays for accrued interest first, and the remainder pays down the principal owed. Interest accrues on the unpaid principal balance. Thus, as principal is paid down, the interest that accrues gets less and less. The final payment may vary slightly from the regular installments depending on the exact repayment terms used.

  2.  
  3. With Balloon Payment
    With this type of loan, the borrower repays the principal and interest in equal consecutive installments until a final balloon payment is made. Because of the balloon payment, the term of this loan is shorter than the term of a fully amortized loan, even though the installment payments can be the same amount. Alternatively, you can vary the installment payment amount to your liking, which will simply adjust your balloon payment amount.


WHAT BASIC LOAN TERMS SHOULD I UNDERSTAND?

In preparing a promissory note, you should understand the following basic loan terms. They are used to calculate the repayment figures for any given loan. If you use our Intelligent Questionnaire for Unsecured Promissory Note  (Lump Sum Payment of Principal) to prepare your promissory note, you will need to enter values for any applicable loan term (some of the terms may not be applicable depending on the repayment method chosen).


PRINCIPAL

This is the original amount of money borrowed. Our Intelligent Questionnaire for Unsecured Promissory Note  (Lump Sum Payment of Principal) does not allow you to choose a principal amount greater than $100,000.

INTEREST RATE
In order to avoid the risk of preparing a usurious loan, our Intelligent Questionnaire for Unsecured Promissory Note  (Lump Sum Payment of Principal) does not allow you to choose an interest rate greater than 10%. If you leave it blank, a 0% rate is assumed, and you will therefore not be allowed to select "installments of interest" since no interest will accrue.

DATE OF LOAN
This is the date from which interest begins to accrue. Also, loan repayment begins 1 payment period from this date. For example, if you choose a payment period of "quarterly," and if you enter the date of the loan as 01/01/2004, then the first payment will be due on 04/01/2004. You should choose the date of your loan with this in mind.

PAYMENT PERIOD
This is how often an installment payment of interest is due. A monthly payment period means that interest payments are due every month. A quarterly payment period means that interest payments are due every quarter. An annual payment period means that interest payments are due every year. This term is not available if you choose a 0% interest rate.

LOAN TERM
This is the length of the loan. It is expressed as the number of payment periods. Whether you express the term of the loan as 60 months, 20 quarters or 5 years, the idea is the same - you are determining when your loan will be paid off. The only difference is the frequency of interest payments to be made.

BALLOON PAYMENT
A balloon payment is used to payoff a loan before its regular term.

EXAMPLE: Assume a loan amortized over 10 years. This means it would take 10 years of regular payments to extinguish the loan. Now assume that there is a balloon payment due in 5 years. This means that after 5 years of paying the amount due for a 10 year promissory note, the entire note must be paid off. Thus the term of this note is really 5 years, but the installment payments are based on a 10 year term.

A borrower would usually want this if they are short on cash in the beginning, but expect to be able to payoff or refinance the loan in the future.

AMORTIZED OVER
This is the number of payment periods used to calculate the monthly payment amount. It is NOT the number of payments in which the loan is due. The value you enter here should be greater than the value you enter for "Loan Due In."

LOAN DUE IN

For a balloon note, this is the Loan Term. You must enter the # of payment periods in which the loan is due. For example, if you enter 60 in this box, and assume you have chosen a monthly payment period, then the loan is due in 60 months. The loan will be paid off via 59 regular monthly payments, and a balloon payment due the 60th month. The value you enter here should be less than the value you enter for "Amortized Over."


WHAT OTHER TERMS MAY BE ADDED TO A PROMISSORY NOTE?

Other terms may be added based upon the requirements of and negotiation between the parties involved. These optional terms are briefly discussed below:

ACCELERATION UPON DEFAULT
This term provides that the lender (payee) may call the entire loan due and payable immediately if the borrower defaults. The term "default" is explained below.

EXAMPLE: Let's say Joe borrowed $1000 from Bob for 1 year with monthly installments of principal and interest. If Joe failed to make the 3rd month's installment payment (a default situation), Bob would have the right to demand that Joe pay immediately any remaining amounts of principal and interest due under the promissory note, which amounts would include whatever interest had accrued on the principal up to the date of acceleration (the date Bob demands all his money back). Amounts due pursuant to acceleration cannot include a prepayment premium or unearned interest. As part of the agreement to accelerate, the borrower waives presentment or notice of dishonor, both of which are conditions to an indorser's liability (explained more below).

EVENTS OF DEFAULT
This term explains when a situation is considered a default. It is required if another term in the note depends upon a default situation. Of course, like many other terms of a promissory note, defining a situation of default is open to negotiation between the parties. A lender wants to define a default as broadly as possible. A borrower, on the other hand, wants to define a default as narrowly as possible. The events below are choices (except the first one which is always a default event) provided by the Intelligent Questionnaire for Unsecured Promissory Note  (Lump Sum Payment of Principal) that the parties may decide to include or exclude as an event of default.

1) Borrower fails to make any payment or pay any obligation when due under this promissory note.
2) Borrower becomes insolvent.
3) Borrower files a voluntary bankruptcy petition, or an involuntary petition is filed against borrower.
4) Borrower makes a general assignment for the benefit of creditors.
5) Lender or holder discovers that a misrepresentation was made to lender by borrower or on borrower's behalf, and, absent such misrepresentation, lender would not have entered into the transaction reflected by this note.

LENDER'S RIGHTS AND REMEDIES
Usually, lenders insist on including certain terms designed to protect their interests. The Intelligent Questionnaire for Unsecured Promissory Note  (Lump Sum Payment of Principal) allows the parties to include or exclude any one or all of the following 3 terms.

1. A term providing that the lender does not give up any of his or her rights just because he or she does not feel like exercising them at any given time. For example, if a late fee is due one month, but the lender decides to be nice and not enforce his right to the late fee that month, it does not mean that the lender gives up the right to demand a late fee the next time the borrower is late in making an installment payment.

2. A term providing that all of the lenders rights (if more than one) are cumulative. This means that they can be exercised all together, and pursuing one remedy does not prevent pursuing another.

3. A term providing that any waiver by the lender of any right, or any change to the promissory note, must be in writing and signed by the lender.

LATE CHARGE
This term provides that if the borrower is late on a payment, he must pay a fee to the lender. This is intended to encourage the borrower to be punctual with payments. It also compensates the lender for lost use of time of money and any administrative tasks that may be required to handle late receipt of money. If a late charge term is included, the parties must decide how many days must pass before a payment is actually late, and what the amount of the late charge will be. Late charges must be reasonable (See California Civil Code section 1671), and are usually expressed as a percentage of the payment amount that is late.

ATTORNEY'S FEES AND COLLECTION COSTS
This term provides that if litigation is commenced to enforce rights under the promissory note, the prevailing party (the party in whose favor the court rules) can recover from the other party the money he/she spent for attorneys and other costs. Generally, each party pays for their own attorney. However, if the parties agree to this type of term (or there exists a statute allowing recovery for attorney fees as is the case for certain types of actions), the default legal rule will be changed.

WAIVER OF PRESENTMENT AND NOTICE OF DISHONOR
"Presentment" and "Notice of Dishonor" are concepts defined in California Commercial Code sections 3501-3505. These concepts are best understood in the context of a sale of a promissory note to a 3rd party buyer. The buyer has the right to enforce the promissory note against the original borrower as well as the original lender (also known as the "indorser" - California Commercial Code section 3204). However, if the original borrower defaults, the indorser is not liable until the buyer demands to get paid (known as presentment), does not get paid (known as dishonor), and the indorser receives notice that the buyer has not been paid (known as notice of dishonor). If, however, the borrower and all indorsers waive presentment and notice of dishonor, then the buyer need not worry about these technical requirements to enforce his rights under the promissory note.

NOTE: If acceleration upon default is allowed, these waivers will automatically be included in the promissory note.



WHAT IS A PREPAYMENT PENALTY? HOW DOES IT WORK?
Sometimes, a borrower's affairs may go better than expected and the borrower will want to payoff the loan early in order to avoid paying interest over the whole life of the loan. This is referred to as prepaying the loan, which may be done by increasing the amount of installments, or in one lump sum if the borrower has enough money.

However, unless a prepayment right is placed in a note (or there is a statute authorizing it), a borrower generally has no right to prepay a loan. See Civil Code section 1490. If a lender agrees to allow prepayment, he/she will often demand a certain sum of money (usually referred to as a prepayment penalty or premium). Based on the negotiations between the parties, the prepayment premium may be avoided.

If you use the Intelligent Questionnaire for Unsecured Promissory Note  (Lump Sum Payment of Principal) to prepare your promissory note, you must choose: 1) whether the borrower may or may not prepay the loan, and 2) under what terms and conditions a prepayment would be allowed. There are 5 choices as described below:

1) Borrower has no right to prepay the loan.
2) Borrower may prepay the loan only in its entirety, and without paying a premium.
3) Borrower may prepay the loan only in its entirety, but only upon paying a premium.
4) Borrower may prepay the loan either entirely or partially without paying a premium.
5) Borrower may prepay the loan either entirely or partially, but only upon paying a premium.

If the parties agree to a prepayment with a premium, the amount of the premium must be decided. It is very common to express the premium as a percentage of the unearned interest. Unearned interest is the interest that would otherwise have accrued on the prepaid portion of the principal had the loan been paid through full term.

For example, assume a note (not amortized) for $10,000 for 1 year at 10 percent interest. The interest that will be earned throughout the full term of this note equals $1000. If this note is paid in the 9th month, that means it is being prepaid 3 months early. Thus, 3 months of interest will not be earned, which in this case equals $250.00 (1000/12*3). Unless a prepayment premium is charged, the lender will lose the entire $250 of unearned interest that he/she otherwise expected to receive from the investment.

To calculate the prepayment premium, lets assume in this example that it is 20% of unearned interest. Thus, the premium would equal $50 (20% of $250). With this method of calculating prepayment premiums, the dollar amount of the prepayment premium decreases as the note gets closer to full term. Also, as you can tell from this example, equating the prepayment penalty to 100% of the unearned interest does not make sense because the borrower would not be saving any money by paying the note early and thus will have no incentive to pay the note early.

Calculating the prepayment penalty for partial prepayments on an installment loan is more complicated. If the parties desire to do this, then an amortization schedule must be used (which you can easily create using an online loan calculator) to calculate the unearned interest resulting from the partial prepayment.

Prepayment premiums may also be determined by using a preset amount, such as a lump sum amount or as unearned interest calculated at a preset number of days. Although these methods may make it easier for the borrower to know what the prepayment charge will be, they do not adjust with time. Thus, as time passes, the borrower's incentive to prepay the note will decrease. Depending on the term of the note and the prepayment amounts chosen, this could create undesired results.

NOTE: THE Intelligent Questionnaire for Unsecured Promissory Note  (Lump Sum Payment of Principal) ALLOWS YOU TO CHOOSE ONLY A "PERCENTAGE OF UNEARNED INTEREST" AS THE PREPAYMENT PENALTY. IF YOU WANT TO SET THE PENALTY AT A FIXED DOLLAR AMOUNT, DO NOT USE THIS WEBSITE.

Finally, it is important to understand that if the note is accelerated by the lender because of a default by the borrower, and thus the borrower is forced to "prepay" the loan in full, the issue as to whether or not a prepayment charge is due arises. PLEASE NOTE THAT IF YOU PREPARE A PROMISSORY NOTE USING THIS WEBSITE, THE LENDER WILL NOT BE ALLOWED TO CHARGE A PREPAYMENT PREMIUM FOR ANY PREPAYMENT RESULTING FROM THE LENDER'S ACCELERATION OF THE NOTE.


WHAT IS USURY?
The law imposes a maximum amount of interest that may be charged under certain circumstances. When a lender charges interest in excess of these limits, it is considered to be usury. In many cases, the maximum amount that may be charged is 10%. There is a brief explanation of usury on the California Attorney General's website.

After reading this, you may be curious about the Federal Reserve Bank of San Francisco's rate charged to member banks. You can get information on that by clicking here.

NOTE: As you may have gathered from reading this material and visiting the links above, different situations allow for different interest rates to be charged. However, if you use the Intelligent Questionnaire for Unsecured Promissory Note  (Lump Sum Payment of Principal) to prepare your promissory note, the maximum interest rate you may input is 10%. If you think you are allowed to use a higher interest rate, and/or want to use a higher interest rate, you should not use this website and should seek the advice of an attorney.


THINGS TO CONSIDER
YOU SHOULD NOT USE THIS WEBSITE TO PREPARE A PROMISSORY NOTE FOR ANY OF THE FOLLOWING:

It should not be used by any person (or business) who regularly offers or extends credit to consumers primarily for personal, family, or household purposes.

It should not be used for retail installment sales as defined by California Civil Code section 1802.5.

It should not be used for transactions involving real estate.

It should not be used for any transaction that requires the promissory note to refer to additional documentation.

IF YOU ARE NOT SURE WHETHER ANY OF THESE RESTRICTIONS APPLY TO YOU, DO NOT USE THIS WEBSITE.


LEGAL DISCLAIMER
By visiting and using this website, you agree to our Terms and Conditions.

The material above is NOT a complete explanation of the law regarding the form's subject matter -- it only provides specific legal information regarding the associated form. It is not intended to provide information outside the scope of the associated form. It is intended to explain only certain legal concepts in simple terms in order to help the reader understand what the form is for and how it's generally used.

Also, the above information is not legal advice. It is GENERAL legal information that merely states the law. If you need legal advice about your own particular situation, you must hire an attorney that can listen and apply the law to your specific facts. Online Self-help Legal Tool for California Forms cannot and does not practice law and cannot help you with your individual problem.

Also, the foregoing information and the form related hereto pertain only to California law, unless indicated otherwise at the top of the corresponding . This website does not have information regarding federal law or the laws of other states.