"IOU" is the layman's term for a document known in legal and financial circles as a "promissory note."

A promissory note is written evidence that somebody owes you a given sum of money and what the terms of that loan are. Although you don't need a written promissory note to prove the existence of a valid debt, having written evidence of any debt will be an advantage to you in any future lawsuit to collect money owed from the debtor.

Identify the parties to the loan transaction and the amount of the loan. Begin your promissory note with language like "The undersigned hereby promises and agrees to repay unto (state your name) the sum of £3,250." Make sure it's absolutely clear who's promising to pay what to whom.

Identify the consideration, or reason the note is being signed, after identifying the parties and loan amount. For a loan, your consideration might be recited as "This Note is being given in consideration for said £3,250 loan from (state your name) to the undersigned, the receipt of which is duly acknowledged." When reciting the loan as consideration for the promise to pay, it is important for the debtor to acknowledge receipt of the funds. Otherwise, he might later claim that while he did sign the note, he never received any loan and therefore doesn't owe you anything. If the note is being signed for something other than a loan -- such as money the debtor owes you for property damage, unpaid rent or anything else -- the wording of your note will have to be slightly different. As a rule of thumb, explain why the debtor will have to repay the stated sum.

Identify any essential terms of your deal with the debtor, such as interest rate, date the entire debt or any instalment payments are due, the frequency and size of any instalment payments, and what, if any, late fees will be charged. Be sure your note complies with your state's laws regarding allowable interest; if you charge too much interest, you might be entitled to none at all. The same holds true for late fees. While a given borrower may be perfectly willing to pay an abnormally high interest rate or large late fees, you won't be able to collect these if you don't comply with state law.

Print the debtor's name below a line at the bottom and include a place for notarization. While a notary form may not be necessary in your state, include one anyway. Getting the promissory note notarised not only makes it look more formal, but it also combats the possibility that the debtor might claim he never signed the note.

Tip

Promissory note forms are available for purchase online or at your local office supply store. Consider using one of these instead of writing your own.

Warning

A promissory note doesn't give you the right to repossess anything. If you expect collateral for your loan, you will also need a written security agreement granting you the right of repossession.