What are notes payable? Examples & differences from AP

In corporate finance, notes payable are formal agreements where one party borrows money and agrees to repay it over time, usually with interest. These agreements are more than just financial transactions—they directly influence a company’s stability and ability to grow.

This guide breaks down what notes payable are, their key components, how they differ from accounts payable (AP), and when businesses typically use them.

What are notes payable?

Key features of notes payable include:

• Formal agreements: Notes payable are legally binding contracts with clear loan terms.
• Liability classification: These obligations are categorized as liabilities, reflecting a company’s financial commitments.
• Detailed terms: Each note specifies the principal amount, interest rate, and repayment timeline.
• Common uses: Businesses often use notes payable for significant investments, such as equipment, property, or loans.

In these agreements, the lender is the “creditor,” and the borrower is the “debtor.” The debtor’s obligation to repay makes this a liability known as notes payable. A debtor might use the proceeds from a note to refinance debt, secure working capital, buy equipment or real estate, or acquire businesses or other assets.

Key components of notes payable

Every note payable includes critical details that outline the borrower’s obligations:

• Principal amount: The amount borrowed.
• Interest rate: The cost of borrowing.
• Repayment schedule: The timeline for repaying the loan, including the principal and interest.
• Maturity date: When the loan must be fully repaid.
• Collateral (if applicable): Assets pledged to secure the loan.
• Parties involved: The borrower and lender.

These details ensure clarity and accountability for both parties.

Types of notes payable: Short-term vs long-term

Notes can either be short-term or long-term in nature. Short-term notes are due within one year, while long-term notes have repayment periods ranging from 1 year to 30 years or more. The repayment period (commonly called the “term”) depends on the loan’s purpose and the collateral securing it.‍

For example, a working capital loan might have a repayment term of 18-24 months, while a real estate loan might have a term of 25 years or more. These terms are outlined in a credit agreement, which specifies:

• Interest rates
• Payment schedules
• Late payment penalties and fees
• Covenants (financial or operational conditions the borrower must meet)
• Lender rights in the event of default

Additionally, notes may be secured (backed by collateral like equipment) or unsecured (not tied to specific assets).

How notes payable appear on financial statements

Notes payable are listed on the balance sheet under liabilities:

• Short-term liabilities: Notes due within 12 months.
• Long-term liabilities: Notes with repayment periods beyond 12 months.

On a balance sheet, you might also see notes payable referred to as “long-term debt”, “promissory notes”, or just simply “loans”. You’ll also probably find the following entries on its financial statements:

• Current portion of debt (CPLTD): The amount of long-term debt due in the next 12 months.
• Interest expense: The cost of borrowing, shown on the income statement.
• Fixed assets: The company’s tangible long-term assets on the balance sheet.
• Debt schedules: Detailed overviews of all outstanding loans, including lenders, balances, interest rates, and collateral.

A month of work done in minutes.

Handle 10x the invoices in half the time.

Try Ramp Bill Pay

Notes payable vs accounts payable

While both notes payable and accounts payable are liabilities, they differ significantly in purpose, terms, and impact on financial statements.

Payment terms

Payment terms for notes payable can be short-term (due within one year) or long-term (over one year), typically with interest and a structured repayment schedule. Accounts payable (AP), in contrast, are short-term (30–60 days), interest-free, and may include early payment discounts.

Risk and collateral

Notes payable carry higher risk due to interest payments and potential collateral like equipment. AP is low-risk and non-collateralized but requires timely payments to maintain vendor relationships.

Agreement types

Notes payable are formal contracts with promissory notes detailing loan terms like principal, interest, and repayment schedules. AP, on the other hand, relies on informal agreements, such as invoices, for routine expenses.

Use cases

Notes payable are used for significant investments like equipment or property, supporting long-term growth. AP covers operational expenses like supplies, utilities, or inventory for daily business needs.

Impact on financial statements

Notes payable impacts working capital if classified as short-term; long-term notes are listed separately on the balance sheet. In comparison, AP directly affects a company’s working capital and cash flow, as it represents unpaid short-term expenses.

Notes payable vs notes receivable

Notes payable represent a borrower’s obligation to repay borrowed capital, while notes receivable signify a lender’s right to receive payment. Notes receivable are recorded as assets on the balance sheet, categorized as current or non-current depending on the collection period.

Examples of notes payables in action

Short-term business loan

• Scenario: A small business needs $10,000 to purchase new equipment. The business owner approaches a local bank for a loan.‍
• Note payable: The bank agrees to lend the $10,000 with an interest rate of 5% over one year. The business owner signs a promissory note outlining the terms, including monthly payments of principal and interest.

Here’s how it looks as a journal entry:

At initiation, the business receives $10,000 in cash, recording it as a liability and monthly payments are split between principal ($833.33) and interest ($41.67).

Over the next year, the business makes monthly payments to the bank according to the terms of the note. This loan is recorded as a note payable on the business’s balance sheet. Each payment reduces the principal owed, and interest is recognized as an expense.

Examples of financial cases

Additionally, here are a few scenarios that often cause confusion when determining what qualifies as notes payable:

Managing notes payable commitments

To maintain financial health and meet repayment obligations, businesses should:

1. Understand repayment terms: Familiarize yourself with schedules, interest rates, and penalties.
2. Monitor cash flow: Ensure sufficient funds for timely payments.
3. Track due dates: Use tools to stay on top of deadlines.
4. Communicate with lenders: Be proactive about renegotiations if necessary.
5. Plan ahead: Anticipate future payments and their impact.

Simplify notes payable management with Ramp

Notes payable are essential for financing growth and managing large-scale investments. While Ramp doesn’t offer notes payable financing, we simplify the management of your full financial picture, including these liabilities.

By integrating your accounting software with Ramp, you gain clearer visibility into your cash flow. Our automation tools streamline accounts payable, track spending, and deliver actionable insights to help you manage all financial obligations effortlessly and keep your business financially agile.

Watch a demo video and see why businesses that use Ramp save an average of 5% a year.