What is the Fair Market Value of Your Promissory Note?
The Internal Revenue Service's Revenue Ruling 59-60, which provides guidelines for valuation of closely held companies, presents a working definition of fair market value:
2.2 Section 20.2031-1(b) of the Estate Tax Regulations (section 81.10 of the Estate Tax Regulations 105) and section 25.2512-1 of the Gift Tax Regulations (section 86.19 of Gift Tax Regulations 108) define fair market value, in effect, as the price at which the property would change hands between a willing buyer and a willing seller when the former is not under any compulsion to buy and the latter is not under any compulsion to sell, both parties having reasonable knowledge of the relevant facts. Court decisions frequently state in addition that the hypothetical buyer and seller are assumed to be able, as well as willing, to trade and to be well informed about the property and concerning the market for such property.
Promissory notes are written promises to repay a debt under specific terms. These notes (sometimes called "notes payable") allow companies to borrow money from sources other than public debt markets or commercial lenders. Typical promissory note lenders are individuals connected to the company or other companies who are willing to lend the money for various reasons.
A promissory note consists of a contract which details the terms of the promise of the borrower ("maker," "issuer," "obligor") to pay an amount to the lender ("payee," "holder," "obligee"). The contract usually identifies the parties, the amount of the obligation (principal), the date of issue, the interest rate charged, the payment amounts and payment dates, prepayment privileges or penalties, any security for the loan, what constitutes default, and default remedies. If the note is secured a security agreement or deed of trust will also be issued.