An unsecured promissory note enables a lender to detail every piece of information when lending money to another party without security. The borrower is expected to repay the loan as agreed. However, there is often no tangible security that can be used to repay the loan that the borrower fails to pay the loan.
In simple terms;
An unsecured promissory note is a simple agreement where the borrower doesn’t have protection against the loan borrowed.
Unlike the secured promissory note, unsecured promissory notes don’t have any collaterals or assets of value. Therefore, the borrower should default to pay the loan; the lender can seek restitution through small claims or follow due legal process. Usually, lenders prefer getting into unsecured promissory notes with credible borrowers or individuals with a high credit score. This is because such borrowers have a higher chance of making the loan repayment on time.
Understanding Unsecured Promissory Note
Following are a few things to know about unsecured promissory notes:
Promissory Note Terms and Conditions
Compared to any other loan agreement, unsecured promissory notes also have set terms and conditions that help govern loan issuance. That’s said, the following are some standard terms and conditions:
- A borrower’s promise to pay the loan as per the agreement.
- An assurance that the borrower will pay the loan
- The amount borrowed and the interest rate charged
- The frequency of payment and the payment methods and accounts.
- Any extra fees to be paid
- Penalties will follow while the borrower fails to pay in time or default payments.
Unsecured Promissory Note vs Secured Promissory Note
Understanding the difference between unsecured promissory and secured promissory notes is very important. In many cases, people tend to confuse the two, yet they differ in meaning. One significant difference between a secured promissory note and an unsecured promissory note is that the latter only contains the borrower’s promises to make a loan repayment. As such, it lacks any collateral or security that can be used against the loan.
On the other hand, a secured promissory note must have collateral in place. The collateral will stand in as a security for the borrowed amount and can be used to settle the pending loan if the borrower defaults on their payment. Various items can be used as collateral. These include car logbooks, property assets, financial assets, and other equitable assets. The secured promissory notes use such collateral as a degree of assurance of loan repayment. As such, they can protect their investments whenever they are in such transactions.
Components of Unsecured Promissory Note
As a lender, knowing your borrower is very important when giving out unsecured promissory Notes. While it enables you to charge a higher repayment rate, other components play a critical role in the note. Knowing these components puts you in a better position to lower risks associated with lending money without security. These components include:
Repayment type is a component that will make you understand how your money will be paid back. Generally, there are various types of repayments that you would consider. It’s up to you to select the most convenient one. These repayment types include installments, interest-only payments, and lump sum.
- Installments: Installments are made in small equal amounts spread over a long period. Through installments, the borrower will show their commitment to settle the debt over a specified period. One advantage of installments is that the lender will always know if the borrower defaults to pay over a certain period.
- Interest-only payments: Interest-only payments are often used when the borrower has a good credit score. The borrower is often expected to pay on the loan interest until they reach a time when the loan should be fully repaid.
- Lump-sum: If the lender isn’t comfortable with either the installments or the interest-only payments, he can consider this form of repayment. Lump-sum repayment requires the borrower to make total payments at once when the date is due.
Fee and defaults
As much as it’s an unsecured note, it doesn’t mean that the borrower can default payment at will. Because if they do, they will face inevitable consequences. therefore, the following are some fees that the borrower can be subjected to pay if they miss to make payments as per the agreement:
Interest fee- before enforcing this fee, the borrower will be given 15 days to make repayments. Failure to do so, the lender will charge interest on the due amount.
Late fee- these are fees that allow the lender to set the borrower a date to make payment after they have missed the first deadline. If the borrower still fails to honor the second deadline, they will be charged for late payment.
Before you put your signatures, you must agree. Reread through the document to ensure everything is in order. This includes counterchecking if the principal sum is correct. Then, you can proceed and add the signatures of both the borrower, lender, and two witnesses.
Writing an Unsecured Promissory Note
Writing an unsecured promissory note is not tricky. Once you have enough information at hand, the whole process is easy and fast. But if you are fining some challenges, the following steps will help you through:
Write down basic components
The first step of writing an unsecured promissory note is starting at the basics. Here is some useful information to start with:
- The date on which the document is executed: Write the date on which the agreement is to be made. This should serve for record-keeping purposes.
- The official name of the borrower: Write down the name of the person borrowing the loan. The official names should be recorded as they appear in government documents such as ID or driving license.
- The official address of the borrower: You need to note down the official address of the borrower. Note that the address should be correct for convenience purposes.
- The official name of the lender: Note down the name of the lender as they appear in government-issued cards such as passports, ID, or driving license.
- The official address of the lender: In this section, a person is required to indicate the address of the lender after their name.
- The principal sum of the note: The principal sum is the total amount owed by the borrower to the lender. This sum should be noted down after the lender’s address.
- The percentage of the accumulated annual interest: After the principal sum, you should then indicate the interest to be paid on a yearly basis.
After downloading the document and including the above-stated information, you to work on the finances. The following are some essential things to consider: Select the most agreeable payment method.
Also, check box the following information:
- No installments
- Interest-only payments
- A weekly or monthly schedule of payments
- Due date
- Interest due in case of a loan default (read and understand the interest rate and determine the annual percentage)
If you want to include additional information in the titled section, feel free to do so. Some of the titled sections include:
- Allocation of payment
- Repayment details
- Late fees
- Acceleration attorney’s charges
- Waiver of presentments
- Non-waivers (if present)
- Notice and execution
Signatures help in making the document legally binding. Therefore, the unsecured promissory note document will require two witnesses and their respective signatures. The following are crucial information to be included before appending signature:
- The date on which the signature is signed in the form of dd/mm/yy.
- The signature of the lender
- The name of the lender
- The signature of the borrower
- The name of the borrower
- The signature of the two witnesses
- The name of the witnesses, respectively.
Here are some free customizable Unsecured Promissory Note templates that you can download as per your need.
Frequently Asked Questions
Yes, as much as any collateral doesn’t cover the unsecured promissory note, the lender can still collect from a noncomplying borrower. That is to say, if the borrower doesn’t honor repayment terms on the note, then the lender can file a court suit, report to a debt collection agency, or demand payment in any other legal way. Before signing an unsecured promissory note, you should remain certain that you will be able to repay the lender as per the agreement. note that if you follow the terms and conditions of the unsecured promissory note, the whole process of loan acquisition can be quick and efficient.
When the lender is lending money through an unsecured Promissory Note, both the parties and witnesses put their signature on the document. This alone acts as a legal binder. Therefore, if the borrower fails to pay the unsecured promissory note, he or she can be held liable through a court of law.