Business Notes

What Is A Business Promissory Note?

Before answering that question, let's first discuss the definition of a promissory note. 

On a very basic level, a promissory note is a document that states that someone owes someone else money over time as part of a sale of something. 

For example, in the event of a conventional house sale and the buyer is able to obtain traditional bank financing to pay for the non-cash part of the house purchase, the mortgage that results is basically a promissory note that states that the buyer owes the bank back the money borrowed over time with interest. 

This promissory note is a secured note that is backed by the house and associated property.

A business promissory note on the other hand is what is created with the sale of a business.

What is a very common case with a business sale is the creation of a business note through seller financing where the business buyer owes the business seller (instead of a bank) money over time for the non-cash part of the business sale.

Why Are Business Notes Created?

Every year there are many businesses that are bought and sold. 

However, obtaining traditional banks loans for the business buyer for these business sales is more difficult than obtaining bank financing for real estate. 

The reason is because of the failure rate of many kinds of businesses and because of the greater difficulty that exists in creating a highly secured note from business assets. 

With a real estate sale transaction, the bank loan can be secured with the property itself.

Since many businesses rent or lease their properties where they run their operations, what is left to secure a note is mainly equipment and inventory which, as collateral for a note, aren't nearly as stable as owned property.

In order to facilitate the sale of a business, a business owner can use seller financing to create a note for a portion of the business sale.

Take a business that sells for $100,000 for example.  If the business buyer decides to apply a down payment of $25,000 toward the purchase and wants to finance the remaining $75,000 but cannot obtain bank financing, the business seller could create a business promissory note in the amount of $75,000.

The buyer would then make payments to the seller over time and the seller would walk away from the transaction with $25,000 in cash and a new income stream.

The creation of a business promissory note through seller financing allows the business seller to find a buyer for the business faster than if the seller would have to wait for only buyers who either have enough money for an all-cash sale or can obtain difficult-to-secure bank financing.

How Business Notes Fit Into The Cash Flow Industry

Even though seller financing is what enables many businesses to be bought and sold, the ideal situation for many business sellers is probably to walk away from the closing table with all cash (either all cash from the buyer or the combination of the cash down payment from the buyer and the cash from the buyer's bank loan).

Many business sellers would prefer not to be acting like a bank and having to worry about collecting relatively small payments over time versus having all their money up front.

Enter the cash flow industry.

Within the cash flow industry, there is a business segment that involves the buying and selling of seller financed business notes.

There are investors out there who are in the business of building a portfolio of business notes that they purchase at a discount.

Business sellers who are collecting payments on a note can sell either all of or even just a portion of the remaining payments to these investors for a lump sum of cash up front.

Related Articles:

Buying and Selling Business Notes

Learn the reasons anyone would want to buy and sell business notes.

Seller Financing

Find out the role that seller financing  plays in the creation of a business promissory note.

How To Sell Business Note Payments

Learn the process for selling business note payments.

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