To write a promissory note that will actually hold up, you need seven things in the document: the date, the full legal names and addresses of the lender and borrower, the exact loan amount, the interest rate, the repayment schedule, default and late-payment terms, and the borrower’s signature. If the loan is secured by property, you add a specific collateral description and a separate step after signing to perfect the lender’s security interest. Everything else in a well-drafted note exists to make those core pieces work under pressure.
Pick the Repayment Structure First
Before drafting anything, decide how the borrower will actually pay you back. The structure drives most of the note’s language and determines how interest builds up over time.
- Installment payments. Equal periodic payments—usually monthly—each covering some principal and some interest. This is the standard for private loans because both sides know exactly what to expect.
- Balloon payments. Smaller periodic payments, sometimes interest only, followed by one large final payment. Useful when the borrower expects to refinance or sell an asset to cover the last payment.
- Interest-only payments. The borrower pays only interest for a set period; the principal stays flat. When that window ends, payments jump because principal has to start coming down.
- Demand notes. No schedule. The whole balance comes due whenever the lender asks in writing. Flexible for the lender, risky for the borrower.
The Core Terms Every Note Needs
Miss one of these and you invite a challenge to the note’s enforceability.
- Date of the note. The day the borrower signs and the obligation begins.
- Full legal names and addresses. Both parties, spelled out. Nicknames or partial names create disputes about who owes what.
- Principal amount. The exact dollar figure being loaned. Write it in both words and numbers—”Five Thousand and 00/100 Dollars ($5,000.00)”—so a typo in one version doesn’t create ambiguity. Promissory notes filed with the SEC follow this convention consistently.
- Interest rate. Expressed as an annual percentage, set within the limits described below.
- Repayment schedule. Exact dates, amounts, and payment method for each installment. For a demand note, a clear statement that payment is due upon the lender’s written request.
- Maturity date. The date by which the entire balance must be paid. Even a demand note can carry an outside date.
- Late payment terms. What happens if a payment arrives past due.
- Default provisions. What counts as default and what the lender can do about it.
- Signatures. The borrower’s signature is essential. The lender’s is optional but common.
If the loan is secured, add a section that describes the collateral precisely and grants the lender a security interest in it.
Set the Interest Rate Between Two Legal Limits
Interest is where private notes most often go wrong. Two separate bodies of law box you in from opposite directions.
State Usury Law Sets the Ceiling
Every state caps the interest a private lender can charge. There’s no federal ceiling for most private loans; the limits live in state usury statutes, and they vary widely. Exceeding the cap can void the interest entirely, force a refund of interest already collected, or trigger civil penalties. Check the usury statute of the state whose law will govern the note before you pick a rate.
The Applicable Federal Rate Sets the Floor
Federal tax law effectively sets a floor through the IRS’s Applicable Federal Rate. Charge less than the AFR and the IRS treats the difference—the “forgone interest”—as if it had actually been paid. For loans between family or friends, the IRS characterizes the forgone amount as a gift from the lender to the borrower and then as interest income back to the lender. You end up owing tax on interest you never received.
The AFR is published monthly and depends on the loan’s term. As of March 2026, the annually compounded rates are 3.59% for loans of three years or less, 3.93% for loans over three years and up to nine years, and 4.72% for loans over nine years.1Internal Revenue Service. Revenue Ruling 2026-6 – Applicable Federal Rates Use the rate for the month you fund the loan and lock it in for the full term.
The $10,000 De Minimis Exception
If the total lent to one borrower stays at or below $10,000, the imputed interest rules don’t apply, and you can charge zero interest without tax consequences. The exception disappears if the borrower uses the loan to buy income-producing assets like stocks or rental property. For loans between $10,001 and $100,000, imputed interest the lender must report is capped at the borrower’s net investment income for the year.2Office of the Law Revision Counsel. 26 USC 7872 – Treatment of Loans With Below-Market Interest Rates
Write Real Default and Late-Payment Language
This is the section most informal notes leave out, and it’s the one that matters when payments stop.
Grace Period and Late Fees
Say how many days after the due date a payment becomes late and what fee applies. Grace periods of 10 to 15 days are common. Late fees typically run 4% to 5% of the overdue amount or a flat dollar figure. Some states cap late fees or require a minimum grace period, so your terms have to fit the governing state’s rules.
Acceleration Clause
An acceleration clause lets the lender declare the entire remaining balance immediately due after a specified default. Without it, the lender can only sue for each missed payment individually, which is slow and expensive. Acceleration usually isn’t automatic; the lender chooses whether to invoke it, and the borrower may have a chance to cure the default first.
Other Default Events
Missed payments aren’t the only trigger worth naming. A bankruptcy filing, the borrower selling or damaging the collateral, or false information supplied to obtain the loan can all be defined as defaults. Each event should be paired with what the lender is entitled to do in response—demand full payment, take the collateral, or both.
Address Prepayment Explicitly
A borrower who comes into money may want to pay off the note early. That means less interest income than the lender expected, so some notes include a prepayment penalty—often a percentage of the remaining balance or a set number of months of interest. If you don’t address prepayment at all, most states allow the borrower to prepay without penalty by default. Either way, spell it out. A one-sentence clause allowing prepayment without penalty, or describing the specific penalty, ends the argument before it starts.
If the Loan Is Secured, Describe the Collateral Precisely
A secured note ties the debt to a specific asset. If the borrower stops paying, the lender has a legal path to seize that asset. An unsecured note relies on the borrower’s promise alone; the lender’s only remedy is a lawsuit and whatever the borrower has left to collect against.
When you secure a note, the collateral description has to be specific enough that no one could confuse the asset with something else. For a vehicle, that means the year, make, model, and full 17-digit Vehicle Identification Number. For real estate, use the legal description from the deed, not just the street address. A vague description can make the security interest unenforceable.
Perfecting the Security Interest
Signing the note is only half the job for a secured loan. The lender also has to perfect the security interest, which is the legal step that puts other creditors on notice. Without perfection, another creditor can jump ahead of you on the same collateral even though your note was signed first.
For personal property—vehicles, equipment, inventory—perfection usually means filing a UCC-1 financing statement with the Secretary of State in the state where the borrower is located. The filing lists the debtor’s name, the secured party’s name, and the collateral. Errors in the debtor’s name can void the filing, so check the spelling against official identification. For real estate, the lender records a deed of trust or mortgage with the county recorder’s office where the property is located. Recording fees generally run between $30 and $60.
Sign, and Consider Notarizing
The borrower signs with their full legal name, matching the name in the identification section of the note. In most states, that signature alone makes the note enforceable. The lender’s signature isn’t typically required, though some lenders sign to acknowledge the terms.
Notarization isn’t required in the vast majority of states, but it adds independent verification that the person who signed is who they claimed to be. If there’s any real possibility of a later dispute—and with a substantial loan, there always is—a notary fee of $5 to $25 per signature is cheap protection. Having one or two witnesses sign alongside the borrower serves a similar purpose.
Once signed, the original note goes to the lender, who holds it as proof of the debt until the balance is paid. The borrower keeps a full signed copy. A surprising number of private loans exist as a single sheet in a desk drawer, and when that sheet disappears, proving the terms turns into a courtroom fight.
A Note on Negotiability
A promissory note can be drafted as a negotiable instrument under Article 3 of the Uniform Commercial Code, which gives the holder stronger rights if the note is ever sold or transferred.3Cornell Law School. Uniform Commercial Code 3-104 – Negotiable Instrument Making a note negotiable requires an unconditional promise to pay a fixed sum, payable to order or to bearer, on demand or on a specific date, with no obligations on the borrower beyond paying money. For most loans between family members you won’t need transferability, and plain language identifying the borrower and lender is fine. If you might sell or assign the note later, use “pay to the order of [lender’s name]” and meet the other UCC requirements.
Tax Consequences to Expect
Private loans create tax obligations that surprise a lot of lenders. The IRS applies the same rules whether the loan is between strangers or siblings.
Interest Is Taxable Income
Any interest the lender collects is taxable. If the lender receives $10 or more in interest during the year, they file Form 1099-INT reporting that amount.4Internal Revenue Service. About Form 1099-INT, Interest Income Below that threshold, the interest is still taxable; only the reporting form is optional.
Imputed Interest on Below-Market Loans
When a loan charges less than the AFR, the IRS applies the imputed interest rules under 26 U.S.C. § 7872.2Office of the Law Revision Counsel. 26 USC 7872 – Treatment of Loans With Below-Market Interest Rates The lender is treated as having received interest at the AFR regardless of what the note actually says, and the forgone amount may also be a taxable gift. The 2026 annual gift tax exclusion is $19,000 per recipient, so forgone interest below that figure won’t trigger a gift tax return, but the lender still owes income tax on the phantom interest.5Internal Revenue Service. IRS Releases Tax Inflation Adjustments for Tax Year 2026
Forgiveness
If the lender later forgives part or all of the loan, the forgiven amount is generally treated as a gift to the borrower. Forgiveness above $19,000 in a single year requires the lender to file a gift tax return (Form 709), though no tax is actually owed until the lender exceeds their lifetime gift and estate tax exemption.6Internal Revenue Service. Gifts and Inheritances
Closing Out the Note
Once the borrower makes the final payment, the lender returns the original note marked “Paid in Full” with the date and the lender’s signature. If the loan was secured, the lender also releases the security interest: a UCC-3 termination statement with the Secretary of State for personal property, or a release of lien with the county recorder for real estate. A perfected security interest that never gets released leaves a cloud on the borrower’s property that can block future sales or refinancing.
How Long the Note Stays Enforceable
Every state sets a statute of limitations on collection actions. The clock generally starts when the borrower misses a payment or, for a demand note, when the lender demands payment and the borrower doesn’t pay. Most states give lenders three to six years; a handful allow 10 to 15. Once the period expires, the debt still exists, but the courts are no longer available to enforce it. For any substantial loan, that’s one more reason to include an acceleration clause and act promptly on missed payments rather than letting them accumulate.