A loan agreement is a crucial and complex document which sets out the terms on which money has been lent. If you are borrowing money, it is of upmost importance that you understand all the provisions of the loan agreement so that you are familiar with your rights and obligations as borrower.
Consider the following once you receive a copy of the loan agreement, before engaging a solicitor to review and advise you on the terms of your loan agreement.
A loan agreement should always set out the purpose for which the loaned money will be used.
Disclosing to the lender the purpose of the loan will not only assist a lender in determining the risk characteristics of the loan, but also whether to approve the loan, what interest rates to provide and what terms to include.
If interest is charged under the terms of the loan, it is crucial that you understand:
- the specific interest rate on the loan (specifically, whether it is a fixed or variable rate of interest);
- how often interest is calculated;
- how the interest is applied to the loaned amount;
- when interest will need to be paid; and
- whether default interest is charged if the borrower defaults.
Having a clear understanding of the interest provisions will ensure that you know exactly how much you need to pay to the lender and when.
If the default interest rate is excessive, it could be deemed a penalty rate and unenforceable.
Another key term relates to the repayment provisions of the loan. As a borrower, you will want to know whether:
- the loan is repaid on demand, on a specific date or in accordance with a schedule;
- the loan can be repaid before the end of the repayment date.
From a borrower’s perspective, understanding exactly when you will have to repay the loan and whether you can pay the loan early is essential. If you are unsure about the repayment provisions under the loan agreement, you can discuss these with the lender or your solicitor.
A lender will almost always ask for security before they advance a loan to you in order to minimise their risk and ensure they can enforce the loan if you fail to pay.
A secured loan ensures that the lender will be able to enforce their rights against the security to recover the loaned money, whereas an unsecured loan means that there is no security against the loan if the borrower does not pay back the loan.
If the loan agreement you’ve received includes security, you should consider the ‘3 types of security a lender may require for a loan’ before signing the loan agreement.
Where the loan agreement does not include security, the lender will not be able to minimise its risk and this may have a flow-on effect to the terms of the loan, especially the interest rate and repayment provisions.
When lending money, the lender will almost always require you to make numerous undertakings which allow the lender the manage and monitor their exposure throughout the term of the loan.
Undertakings are essentially promises to do or not do certain things and can be categorised as positive and negative undertakings.
Positive undertakings are promises to do specific things, such as:
- providing the lender with information relating to the borrower; or
- maintaining security for the loan.
In the alternative, negative undertakings are promises not to do specific things, such as:
- prohibiting the borrower from selling their assets; or
- changing control of the borrowing entity (where the borrower is a company or trust).
It is vital that you consider the undertakings set out in the loan agreement and ensure that you comply with them through the term of the loan to avoid triggering an event of default.
Events of Default
One of, if not the most, important provisions of a loan agreement are the default provisions.
An event of default is an event where the borrower fails to pay or meet their obligations under the loan. Events of default that are included in a loan agreement will depend on the type of loan that you enter into and the borrowing entity that enters into the loan (i.e. an individual, company or trust).
Notable events of default include where you:
- default on another loan facility provided by the same lender;
- breach a term of the loan agreement;
- fail to attend to payment of the loan or interest in accordance with the agreement;
- enter into insolvency or bankruptcy;
- are found to be in breach of an obligation, warranty or representation as set out in the agreement.
If an event of default occurs, you will be taken to have defaulted on the loan and the lender may be able to:
- charge default interest on the outstanding loan amount;
- request immediate repayment of the loan together with outstanding interest and all other monies;
- take possession and sell property that has been given as security for the loan;
- refuse to lend the borrower more money; or
- demand that any guarantors repay the loan on behalf of the borrower.
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