Understanding Promissory Notes: A Comprehensive Guide
9 MIN READ
Published October 24, 2023 | Updated November 17, 2023
A promissory note is a legally binding document. It is a written promise to repay a specified sum plus interest, and outlines the terms and conditions under which the loan will be repaid and what may happen if you fail to repay the loan.
When you close on the property, you’ll have to sign a number of documents, including the mortgage (most often referred to as the “Deed of Trust” in legal terms) and the promissory note. Since these documents are an essential part of the home-buying process, you should review them thoroughly to make sure they’re accurate and keep them in a safe place, in case you may need to refer to them during the life of the loan.
How Is a Promissory Note Different from a Mortgage?
Once you’re ready to close on a property, you’ll have to sign a few closing documents. Many mortgage lenders use the terms mortgage note and promissory note interchangeably, but the two documents are distinctly different from one another.
A promissory note is a document that contains the borrower’s promise to repay the loaned amount (plus interest) and creates a legal obligation for the borrower to repay this loan according to the terms agreed to by both parties when the loan request was approved. As a complement to the promissory note, the mortgage document legally pledges the home (or other residential/commercial property) as “security” on the loan’s repayment.
The mortgage provides the bank with financial security, in that it has a way to recoup its money, should the borrower not fulfill his/her obligations under the promissory note. In summary, the promissory note is a document that identifies the lender and the borrower, describes the agreement between them, and details the terms under which repayment of the loan will be made.
The mortgage document (aka, the Deed of Trust) specifies the property to be pledged by the borrower as collateral and creates a security interest (a lien) on the property for the lender. The mortgage also describes what will happen if the borrower does not meet the terms of the promissory note in full, and gives the lender the right to foreclose on the loan, should they need to.
Purpose of a Mortgage or Deed of Trust Document
The mortgage document provides lenders security when they lend money to the borrower. Without it, borrowers wouldn’t be quite as incentivized to repay what they borrow. When both parties sign the mortgage and the promissory note, they become legally binding during the closing process.
Once you repay the amount of money you borrowed in full, the mortgage terms release the property from the lien it created on the original closing date, and provides you full and official ownership of the property.
What’s Included in a Promissory Note
Once you satisfy a lender’s mortgage requirements and they extend you a home loan, you’ll have to agree to a few terms and conditions at closing. The promissory note includes key terms of your mortgage loan, such as:
- The amount of loan
- The interest rate (adjustable or fixed-rate mortgage)
- Down payment amount
- Monthly payments
- Penalties and fees
- Type of loan
- Maturity date
- Consequences of not repaying the loan
It may also outline your rights and obligations as a borrower, such as the use of a property as a primary residence and not storing hazardous substances on the property.
Who Holds the Mortgage Document and Promissory Note?
At closing, you’ll get a copy of these documents, not the originals. The mortgage servicer will hold the original mortgage and promissory note unless they sell it on a secondary market to another loan servicer. This will not impact your loan terms, just the company and address to where you’ll send your mortgage loan payments each month.
The mortgage loan is oftentimes packaged-up and securitized as a financial instrument, so it’s often pooled with other mortgage-backed securities and sold to investors. Again, this process will not impact the terms of your loan or your payments.
Who Is the Signer and Provider in the Mortgage Loan Documents?
The mortgage lender is the provider of a mortgage loan. Every person who applies for a mortgage loan is listed in the promissory note as a signer and must sign the note. For example, if you applied for a mortgage loan with your spouse, both of you must sign the mortgage and promissory note.
You’ll sign these documents during the closing process. A notary public will sign and stamp the mortgage and any other required documents, as they witness you sign each form.
How To Get Your Original Mortgage Document
Your lender will provide you with a copy of the mortgage document once it’s signed. The lender will hold the original, and you’ll only be able to get it once you’ve repaid the loan in full, similar to receiving the title to your automobile when you pay off your vehicle loan (in states that require the lender to retain the title on file until fully paid). If you’ve lost or accidentally destroyed your copies of the original mortgage loan documents, you can request that your lender send you duplicates.
You can also request a copy from your county’s record department. Land attachments, mortgage deeds, mortgage notes, and many other documents are filed in the public record, and you should be able to request a copy on the county’s website.
Why Is a Promissory Note Important to the Borrower?
As a homeowner, a promissory note is important because it specifies the details of your mortgage debt, what you need to pay each month, and the consequences of defaulting on the mortgage. It’s a legally binding document, so it’s important to review it thoroughly to ensure its accuracy and keep it in a safe place. If you spot any inaccuracies on the mortgage note, contact the lender to correct it immediately, and do so before you sign your mortgage loan documents.
The lender may give you a grace period if you miss your due date. However, if you miss several monthly mortgage payments, you’ll receive default notices, and the lender may take action as detailed in the promissory note. If you default on the loan, the lien clause on the home will be triggered and enforced. This means that the lender can claim title to your property until you pay off the total amount you owe, or they can move to foreclose on your loan and sell your property to recover the debt.
Mortgage Document vs. Promissory Note
You may hear mortgage lenders use the terms mortgage and promissory note interchangeably, but there are a few key differences between the two. A mortgage (or Deed of Trust) is a security instrument that gives the lender the right to claim the property if you fail to pay the loan.
It will also explain what will happen if the homebuyer fails to make payments. In a Deed of Trust document, a person who wishes to borrow money conveys legal title in real property to a trustee, who holds the property as security for a loan from the lender to the borrower.
A promissory note is a legal document you sign agreeing to repay the loan, according to the terms under which the lender is agreeing to lend you the money to purchase the property. It’s on this document that you’ll find the terms of the mortgage, such as the loan amount, interest rate, whether it’s a fixed-rate or adjustable-rate mortgage, payment dates, and monthly repayment amount.
The Bottom Line on Mortgage Notes
When you close on your mortgage, you’ll have to sign a number of important documents, such as a promissory note and a mortgage document (the Deed of Trust), which details the terms of the loan and gives the lender the right to lay claim to the property if you default on the loan.
If the mortgage note lists out terms that are different from what you’ve agreed to, get in touch with your lender immediately. Once you close, you’ll receive a copy of the mortgage documents. Keep these in a safe place until you’ve paid off the mortgage or sold your property.
“The real estate loan closing process is quite an involved, and sometimes confusing event, even for experienced homebuyers,” says Brad Reichert, founder and managing director of Reichert Asset Management LLC. “During the loan closing appointment, which may last anywhere from 30 minutes to 2 hours, you’ll sign a wide variety of documents, many with several pages that you’re required to sign or initial in pen or electronically,” Reichert explains.
“When you go through your real estate closing, it’s important to ask questions about anything you don’t fully understand before you put pen to paper or click to sign a document electronically,” Reichert adds. “Ask your title agent, mobile notary agent, or lender at your in-person signing session to get clarification on any documents you aren’t familiar with or haven’t seen before,” he says.
Reichert also encourages buyers to consider enlisting the help of a qualified, experienced real estate attorney for large or complex transactions. “This way, you can feel confident that your documents are accurate and your real estate purchase is the best fit for your property ownership goals,” Reichert shares.