What Makes A Promissory Note Invalid? - LawDistrict

Key Takeaways

• A promissory note is invalid if it lacks the borrower's signature, clear terms, or fair clauses, such as reasonable interest rates.
• Losing the original document or unauthorized alterations can void the note.
• Notarization or witnesses are not mandatory but add legal protection, especially for unfamiliar parties.
• The note must include essential details like repayment terms, loan amount, and collateral to remain enforceable.

As its name implies, a promissory note is a written promise to repay someone. It is a legal document that is commonly used for mortgages, car loans, student loans, business loans, and even personal loans between friends or family members.

A promissory note falls somewhere in between an IOU and a loan agreement. They are legally binding, but they do not offer recourse for non-payment of the loan.

If a promissory note is not properly created or executed, it could be deemed invalid.

Read on to learn common mistakes to avoid and how to ensure your promissory note is legally valid.

Read more:Types of Promissory Notes

Is a Promissory Note Legally Binding?

A promissory note is a legally binding contract, but it must meet specific requirements to be enforceable. It should clearly outline the terms and conditions agreed upon by both parties.

A promissory note must include the date of the loan, the dollar amount, the names of both parties, the rate of interest, any collateral involved, and the timeline for repayment. When this document is signed by the borrower, it becomes a legally binding contract.

While the lender’s signature is not typically required, they may request the borrower to sign in the presence of a notary to verify authenticity.

Promissory notes can be secured with collateral, which strengthens their enforceability. If a borrower defaults on repayment, the lender has the legal right to claim any property pledged as collateral.

Even without collateral, an unsecured promissory note remains legally binding.

What Can Void a Promissory Note?

There are some circumstances that can cause this legal document to become null and void. Here are some potential erros to avoid.

Unclear clauses, missing signatures, unfair terms (e.g., excessive interest rates), or losing the original document can render a promissory note invalid and unenforceable.

Be aware of these common mistakes.

Not being signed by the borrower

In order for a promissory note to be legally binding, it must include the borrower’s signature.

You generally are not required by law to have the signatures witnessed or notarized. However, these steps can add a layer of protection – particularly if the two parties do not know and trust each other.

Unclear clauses

If the clauses or the terms of a promissory note are not written clearly, the contract may not be valid. You can ensure you use the correct terminology by downloading a template for a promissory note from Lawdistrict.com.

Unfair terms

Itmust also offer fair terms in order for it to be legally binding. For example, most states limit the amount of interest that can be charged on different kinds of loans. Therefore, an unusually high interest rate could invalidate a promissory note.

Losing the original note or a copy

A third factor that could invalidate a promissory note is if the original document is lost or if it has been altered without both parties agreeing (and signing off) to the changes.

The lender typically retains the original copy, while the borrower should keep a signed copy for their records. If the borrower fails to repay, the lender has the right to take legal action.

Once the debt has been fully repaid, the lender should date and mark the note as “paid in full.”

What Makes a Valid Promissory Note?

Now that we know what can invalidate the document, let’s look at all the components that make it valid and legally binding.

A well-written note should include:

• The full names of the lender and borrower
• The addresses of the lender and borrower
• The amount of money being borrowed
• Details on any collateral being used
• Payment terms, including how often and what amount
• What happens if there is a default in payment
• Any miscellaneous provisions
• Signatures of both parties

Promissory notes for complicated transactions (such as car loans and mortgages) will also include interest rates, amortization schedules, and other details pertinent to that loan agreement.

Read more: Promissory Notes Vs. Loan Agreements

There are 2 main categories of promissory notes

1. Simple promissory note

A simple promissory note is typically used for a lump sum repayment by a specific date. For example, let’s say you lend a family member $1,000 with the agreement that it is to be repaid by December 1. With a simple note, the full amount of $1,000 is due on that date, with no payment schedule involved. Depending on the terms of your agreement, there may or may not be interest charged on the loan amount.

2. On-demand promissory note

With a demand promissory note, there is no set date for repayment of the loan. The lender determines when the borrower needs to repay the money. In most cases, the lender must give the borrower a reasonable amount of notice. An on-demand promissory note is best suited for small loans when there is a foundation of trust between the lender and the borrower.

For example, a loan for your niece’s first car. The flexible repayment deadline allows the borrower to repay the loan when they are able to. As with the single promissory note, interest may also be included in an on-demand promissory note.

It’s important to note that you can also customize a promissory note to fit a specific lending arrangement.

Take advantage of our promissory note template to draft your legally valid and error-freedocument in a matter of minutes.

Helpful Resocurces: Promissory Notes - Investor.gov Promissory Note Fraud - SEC.gov