Most real estate sales hinge on financing some portion of the purchase price. A buyer generally promises to pay a sum of money in installments or a single payment to a lender who funds the sales transaction. Alternatively, the buyer may make payments to the seller under a carryback financing arrangement.

Given in exchange for property or a loan of money, the promise to pay evidences a debt owed by the buyer and payable to the lender or seller to whom the promise is made.

The promise to pay is set out in a written document called a promissory note. A promissory note represents an underlying debt owed by one person to another.

The signed promissory note is not the debt itself, but evidence the debt exists.

The buyer, called the debtor or payor, signs the note and delivers it to the lender or carryback seller, called the creditor.

The note can either be secured or unsecured. If the note is secured by real estate, the security device used is a trust deed. When secured, the debt becomes a voluntary lien on the real estate described in the trust deed.

What are installment notes?

Notes are categorized by the method for repayment of the debt as either:

  • installment notes; or
  • straight notes.

The installment note is used for debt obligations with constant periodic repayments in any amount and frequency negotiated.

Variations of the installment note include:

  • interest-included; and
  • interest-extra.

Finally, notes are further distinguished based on interest rate calculations, such as:

  • fixed interest rate notes, commonly called fixed rate mortgages (FRMs); and
  • variable interest rate notes, commonly called adjustable rate mortgages (ARMs).

Installment note, interest included 

An interest-include installment note with constant periodic payments produces a schedule of payments. The schedule contains diametrically varying amounts of principal and interest from payment to payment. Principal reduction on the mortgage increases and interest paid decreases with each payment made on the mortgage. This process is called amortization. [See RPI Form 420]

Each payment is applied first to the interest accrued on the remaining balance during the period between payments, typically monthly. The remainder of the payment is applied to reduce the principal balance of the debt for accrual of interest during the following period before the next payment is due.

Interest-included installment notes may either:

  • be fully amortized through constant periodic payments, meaning the mortgage is fully paid at the end of the term; or
  • include a final/balloon payment after a period of installment payments, called a due date.

Installment note, interest extra

Interest-extra installment notes call for a constant periodic payment of principal on the debt. In addition to the payment of principal, accrued interest is paid concurrently with the principal installment.

The principal payments remain constant until the principal amount is fully paid or a due date calls for a final/balloon payment. Accordingly, the interest payment decreases with each payment of principal since the interest is paid on the remaining balance. [See RPI Form 422]

Thus, unlike an interest-included note, the amount of each scheduled payment of principal and interest on an interest-extra note declines amount from payment to payment.

Alternatively, a straight note calls for the entire amount of its principal to be paid in a single lump sum due at the end of a period of time. No periodic payments of principal are scheduled, as with an installment note. [See RPI Form 423]