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Buying a home can sometimes feel like learning a new language. Preapprovals, appraisals and the fact that “concessions” don’t involve hot dogs at a baseball game can be more than a little bewildering for first-time homebuyers. If you’re in the market for a mortgage, the more you know, the more confident you’ll be with each transaction during the life of the loan. If you find yourself scratching your head over mortgage lingo, we’d like to make your contract a little clearer by explaining two items that are often confused for one another: a promissory note and a mortgage.
What’s a Promissory Note?
Essentially, a promissory note is an agreement that promises that the money borrowed from a lender will be paid back by the borrower. “It also includes how the loan is to be repaid, such as the monthly amount and the length of time for repayment,” explains David Bakke, a finance expert at MoneyCrashers.com.
Although the home loan process involves both a mortgage and a promissory note, a promissory note can be used singularly in a lending relationship between two individuals. In this case, a promissory note is simply a promise to pay back the amount of money that is borrowed in a set amount of time.
“Another way to think of it is that the promissory note is the IOU for the home loan,” says David Reiss, who teaches about residential real estate as a law professor at Brooklyn Law School in New York.
What Is a Mortgage?
The second part of the home loan involves a mortgage, also referred to as a deed of trust. While a promissory note provides the financial details of the loan’s repayment, such as the interest rate and method of payment, a mortgage specifies the procedure that will be followed if the borrower doesn’t repay the loan.
“The actual home loan (or mortgage) provides information as far as the lender being able to demand complete repayment if the loan goes into default, or that the property can be sold if the buyer fails to repay,” says Bakke.
In the case of a home loan, the promissory note is a private contract between the client and the lender, while the mortgage is filed in the regional government records office. “Once you have paid off your loan your lender will record a document that releases you from the liability of the deed of trust and the promissory note,” says Ross Kilburn, CEO of Ark Law Group, PLLC.
It’s a Package Deal
In the home loan process, a mortgage and a promissory note are not a question of one or the other, but rather, both play distinct roles in the relationship between the lender and borrower. “A home loan refers to a transaction where a borrower borrows money from the lender and in turn signs a promissory note that reflects the indebtedness as well as a mortgage that gives a security interest in the home in case the debt is not paid back,” explains Reiss.
However, a few specific situations do exist in which one might use a promissory note in real estate without the accompanying mortgage part of the home loan. “Just using a promissory note in real estate transactions is a lot less common, but you will see them where maybe a family member is selling a piece of property to another family member (happens a lot in Kansas in the farming community),” says Nick Puckett, an attorney with GuardYourGrad.com.
Are you ready to start shopping for a mortgage? Review the steps in our guide to make sure you’re heading in the right direction! Still have questions? Talk to a Home Loan Expert to get your questions answered and start on your home loan today.
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