What it means
A convertible note is a loan from an investor that's meant to turn into shares instead of being paid back. When you raise a priced round, the amount owed converts into stock, usually at a discount to the new investors' price or at a valuation cap.
Because it's debt, it has two things a SAFE doesn't. Interest builds up over time, and there's a maturity date when the loan is technically due.
The note goes on the balance sheet as a liability when the cash arrives. Interest accrues every month as an expense and an accrued liability, even though no cash is paid. At conversion, the principal and the accrued interest usually both convert, so a note that's been outstanding longer turns into more shares.
If maturity arrives before a priced round, the note's terms decide what happens. Often the company and the holders agree to extend it. Some notes let the holder demand repayment or convert at a set price.
Acme raises $250,000 on a convertible note at 6% simple annual interest. That's $15,000 a year, or $1,250 a month, booked as interest expense and accrued interest. Eighteen months later Acme closes its Series A. The note has built up $22,500 of interest, so $272,500 converts into preferred stock at the note's conversion price.
Many early rounds now use SAFEs, which drop the interest and the maturity date. Either way, the cap table should show the note as if converted, interest included.
Why it matters. If the round doesn't happen before maturity, the investor can ask for repayment or renegotiate. The accrued interest usually converts into shares too.
Try it with your numbers
Change any number. The working below updates as you type.
Shares = (Principal + Interest) ÷ lower of (Cap ÷ Shares, Round price × (1 − Discount))0 for no cap.
0 for no discount.
Shares on conversion
272,500
How it’s worked out
- 1Days outstanding, 30/3602025-01-15 to 2026-07-15, 30-day months540
- 2Accrued interest$250,000.00 × 6.00% × 540 ÷ 360$22,500.00
- 3Amount that converts$250,000.00 + $22,500.00$272,500.00
- 4Cap price$9,000,000.00 ÷ 9,000,000 shares$1.0000
- 5Discount price$2.0000 × (1 − 20.00%)$1.6000
- 6Shares issued$272,500.00 ÷ $1.0000 (valuation cap), rounded down272,500
| Path | Price per share | Shares |
|---|---|---|
| Valuation cap (applies) | $1.0000 | 272,500 |
| Discount | $1.6000 | 170,312 |
| Round price | $2.0000 | 136,250 |
Interest uses 30/360, so each month is 1/12 of a year. On actual/365 (546 days) it would be $22,438.36. Your note states its own day count and what "fully diluted" includes; use those.
The entry, worked
Acme has a $250,000 convertible note at 6% simple annual interest. One month of interest is $1,250, paid only at conversion or maturity.
| Account | Debit | Credit |
|---|---|---|
| Interest expense | $1,250.00 | |
| Accrued interest | $1,250.00 | |
| Total | $1,250.00 | $1,250.00 |
Interest is a cost each month even though no cash moves; at conversion, the principal and accrued interest typically convert into shares.
Common questions
What's the difference between a SAFE and a convertible note?
A convertible note is debt with interest and a maturity date. A SAFE has neither. Both usually convert at the next priced round on a cap or a discount.
What happens if the note matures before a priced round?
It depends on the note's terms. Often the parties agree to extend it; some notes let the holder demand repayment or convert at a set price.
Does the conversion feature need its own accounting?
Sometimes. A conversion at a discount or on a change of control can be an embedded derivative that ASC 815 requires you to separate and carry at fair value, unless you elect fair value for the whole note. ASU 2020-06 removed the old beneficial conversion feature model. Agree the treatment with your CPA.
Where it comes up
The glossary entries, founder guides and lessons on this site that use the term and link here.
- LiabilityA present obligation of the entity to transfer an economic benefit (FASB CON 8 ¶E37)Glossary
- How to account for SAFEs on your balance sheetA SAFE is cash today and shares later. Why it usually sits with liabilities, how the cap and discount set conversion, and what to book at the priced round.Guide · 4 min
- Audit-ready books before your Series AInvestors, lenders and auditors ask for the same things: accrual statements, reconciled accounts and support for every balance. How to be ready first.Guide · 4 min
- Chart of accounts for startups: a starting templateA starting chart of accounts for a US startup: number ranges, the expense accounts you need, and when to add an account versus a class or tracking tag.Guide · 6 min
- The accounting equationAssets = liabilities + equity is not a formula you apply at period end. It is true after every single entry, and that is what makes the books provable.Lesson 2
- Accounts, and the five typesEvery account belongs to exactly one of five types, and its type decides which side increases it. Get the type right and the entry writes itself.Lesson 3
- The balance sheetThe other three account types, at one instant — and the single line where the month's profit lands, which is what ties the two statements together.Lesson 11
Read further
General information for US companies, not tax, legal or accounting advice. Check the specifics with a CPA before you act on them.