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Loan Agreement

Loan Agreements

A commercial loan agreement is a legal document between a lender and a borrower that lays out the terms for lending money and the obligations of both parties involved.

If your business is considering a loan, it's important to be aware of the terms and conditions outlined in these agreements. This ensures that your future cash flow remains healthy and you can comfortably meet all your obligations.

At Lawhive, our network of expert commercial lawyers specialise in all aspects of loan agreements at up to 60% less than high-street firms, with fixed price quotes and no hidden fees.

Contact us for a free case evaluation and quote for the services of a specialist lawyer.

Why is a loan agreement important?

A loan agreement is important for providing clear terms, legal protection, and financial structure for both parties involved.

Clarity and understanding

A loan agreement is important because it spells out all the terms and conditions of the loan.

This means both the lender and the borrower know exactly what they are agreeing to and what is expected of them. Having everything written down helps prevent misunderstandings and provides a clear reference if any questions arise during the loan period.

Legal protection

A loan agreement is a legally binding document that can be enforced in court if either party doesn't follow the terms.

This legal backing protects the lender and the borrower, ensuring that everyone sticks to the agreement and providing a way to resolve disputes if they arise.

Financial planning

A loan agreement helps with financial planning by laying out a clear repayment schedule.

This helps the borrower manage their money and plan for future payments. The agreement also details the interest rates and any fees, so there are no unexpected costs.

This structure makes it easier for the borrower to stay on top of their finances.

Collateral and security

If the loan is secured, the agreement specifies what assets (like property or equipment) are being used as collateral. This means that if the borrower can’t repay the loan, the lender can claim these assets.

Knowing what the collateral is and what happens in case of default provides security for the lender and clarity for the borrower.

Risk management

Loan agreements often include covenants, which are conditions that help manage risk. For example, the borrower might have to keep certain financial ratios. These conditions protect the lender by ensuring the borrower remains financially healthy.

By managing these risks, the loan agreement helps maintain a stable and fair relationship between the lender and the borrower.

Types of loan agreements

Secured vs unsecured loan agreements

Secured loans are backed by collateral, such as a house or other valuable assets. The benefit of these loans is that they often come with lower interest rates. However, there's a catch: if the borrower can’t make the payments, the lender has the right to seize the collateral.

Examples of secured loans include mortgages, car loans, and secured lines of credit.

On the other hand, unsecured loans don’t require any collateral. This means you don’t have to put up any of your assets to get the loan. However, because these loans are riskier for lenders, they usually come with higher interest rates and stricter borrowing limits.

Examples include personal loans and credit cards.

Bilateral vs syndicated loan agreements

In a bilateral loan agreement, just one lender is providing the loan to the borrower. It’s a straightforward, one-to-one arrangement, making it simpler and more direct.

Syndicated loans are a bit more complex, involving multiple lenders coming together to provide a large loan to a single borrower.

This type of loan is often used for big projects or investments, as it spreads the risk among several lenders.

Inter-company loans

These are loans made between companies within the same group. It’s a smart way for a group of companies to manage their finances and allocate resources where they’re needed most.

By doing this, companies can use funds efficiently and effectively across the entire group.

Director loan

A director loan is used when a director of a limited company borrows money from the company.

These loans are strictly regulated and should generally be used for short-term borrowing only.

Shareholder's loan

A shareholder's loan is when a shareholder lends money to a company in which they hold shares.

It's typically used to provide additional funding to the company and can have specific terms and conditions.

Employee loans

These loans are advances given to employees, usually to help them through financial difficulties or emergencies. They provide a way for employees to manage unexpected expenses and are typically repaid over time with interest.

What should be included in a commercial loan agreement?

To make a loan agreement enforceable, it must be made in writing and both parties must sign it.

A commercial loan agreement should include:

• Full legal names and addresses of the lender and borrower;

• The amount being borrowed;

• The interest rate applicable to the loan, including whether it is fixed or variable, and how it will be calculated;

• A detailed schedule of payments, including the frequency, amount, and duration of each payment;

• A clear statement of what the loan funds will be used for;

• Description of any collateral or security provided to secure the loan, including details of any guarantors;

• Obligations and restrictions on the borrower, like financial covenants, operational covenants, and reporting requirements;

• Specific conditions under which the lender can declare the borrower in default, including failure to make payments, breach of covenants, and insolvency events;

• Rights and remedies available to the lender if the borrower defaults, like acceleration of the loan, enforcement of security, and legal actions;

• Statements by the borrower about its legal status, authority to enter into the agreement, financial condition, and other material facts;

• Conditions that must be met before the loan can be drawn down;

• Any fees associated with the loan, such as arrangement fees, legal fees, and other administrative costs;

• Clauses dealing with assignment, amendment, notices, and entire agreements;

• Signatures of all parties involved.

A commercial lawyer can draft a commercial loan agreement for you to ensure the document is legally binding, comprehensive, and tailored to the specific transaction.

Contact us today for a free quote for drafting a loan agreement.

How can a solicitor help with a loan agreement?

Solicitors can draft and review loan agreements to make sure they are clearly written, legally sound, and tailored to the needs of both parties.

Reviewing an existing loan agreement involves identifying potential issues or unfair terms that might affect either party and ensuring the agreement follows relevant rules and laws, like the Consumer Credit Act if applicable.

Solicitors also play a significant role in financial disclosure. For borrowers, they can assist in making a full and accurate declaration of their finances, assets, and liabilities.

For lenders, they help understand the financial positions of the borrower and the implications for the loan agreement.

Negotiation of the loan terms is another area where a solicitor can provide valuable support, ensuring terms are fair and determining appropriate collateral, making sure it is properly documented and registered.

Solicitors also provide clear legal advice on the rights and obligations under the loan agreement, especially in the event of late payments or disputes.

How to draft a loan agreement

Drafting a loan agreement involves several key steps to ensure that the document is comprehensive, legally binding, and tailored to the specific needs of both parties:

1. Meeting with the client to discuss the purpose of the loan and the specific terms they wish to include;

2. Gathering information about the borrower and the lender;

3. Drafting the agreement, including the loan amount, interest rate, repayment schedule, and any other fees.

4. Verifying that the agreement complies with relevant laws and regulations;

5. Ensuring the language is clear, precise, and unambiguous;

6. Reviewing the initial draft and making any necessary revisions;

7. Arranging for the agreement to be signed by both parties.

If the loan is secured, the security interest should be properly registered and both parties should have a copy of the agreement, regardless of the type of loan agreement.

By following these steps, a solicitor can ensure that the loan agreement is thorough, legally sound, and tailored to the specific needs and circumstances of both the lender and the borrower.

What makes a valid loan agreement?

For a loan agreement to be valid:

1. There must be a clear offer by one party (the lender) and acceptance by the other party (the borrower);

2. There must be considerations, meaning something of value is exchanged between the parties. In this case, the loan amount provided by the lender is considered;

3. Both parties must understand they are entering into a contract with legal obligations;

4. Both parties must be of legal age and have the mental capacity to understand the agreement;

5. The loan agreement must be for a legal purpose.

While oral agreements can be valid, it's best to have a written document that clearly outlines the terms and conditions of the loan. This helps prevent misunderstandings and provides a record of the agreement.

What happens if a borrower defaults on a loan agreement?

When a borrower defaults on a loan agreement, the lender can:

• Refuse to lend any more money to the borrower;

• Demand immediate repayment of the outstanding loan amount;

• Take possession of assets to recover the owed money (if the loan is secured by collateral);

• Ask the guarantor to repay the loan on behalf of the borrower (if there is one).

Defaulting on a loan can have serious consequences, so it's important to understand the terms of the agreement and, if you're a borrower facing financial difficulties, communicate with the lender sooner rather than later.

Can a loan agreement be changed after it has been signed?

A loan agreement can be changed after it has been signed. But, both the lender and the borrower must agree to the changes and the amended terms should be included in a new agreement, which both parties need to sign.

How is interest calculated in a loan agreement?

The interest payable on a loan should be clearly mentioned in the loan agreement.

It can be calculated in two ways:

1. Simple interest

2. Compound interest

Simple interest

Simple interest is calculated only on the principal amount borrowed. This means you pay interest on the original loan amount throughout the entire loan term.

For example, if you borrow £1,000 at a 5% simple interest rate, you pay £50 in interest each year.

Compound interest

Compound interest is charged on both the original principal and the accumulated interest.

This means you pay interest on the interest that has been added to the principal over time.

For example, if you borrow £1,000 at a 5% compound interest rate, you’ll pay interest on £1,000 in the first year, then on £1,050 in the second year, and so on.

What is the difference between fixed and variable interest rates?

A fixed interest rate stays the same for the entire term of the loan. This means your monthly payments will be predictable and consistent, making it easier to budget

A variable interest rate can change over time, depending on market conditions. This means your monthly payments can go up or down, which can make budgeting a bit more challenging.

What is an interest-only loan?

With an interest-only loan, you only pay the interest on the loan for a set period, usually a few years. During this time, your monthly payments are lower because you're not paying back any of the loan principal (what you actually borrowed).

After the interest-only period ends, you start paying both the interest and the principal, which makes your monthly payments higher.

What is a personal guarantee in a commercial loan agreement?

A personal guarantee is a promise made by an individual, usually a business owner or director, to repay the loan if the business is unable to do so.

This means if the business defaults on the loan, the lender can require the guarantor to repay the loan using their personal assets, such as savings, property, or other valuables.

What happens if I want to pay off my loan early?

Some loan agreements allow early repayment without extra charges, while others may include prepayment penalties or fees.

It's important to check the terms of your loan agreement to understand any conditions or costs associated with early repayment.

What are common covenants in a commercial loan agreement?

Covenants help a lender monitor the borrower's financial help and manage risk.

Common covenants in a commercial. loan agreements are:

• Financial covenants: These require the borrower to maintain certain financial ratios, such as debt-to-equity or interest coverage ratios;

• Reporting covenants: These require the borrower to provide regular financial statements and updates to the lender, like quarterly or annual reports;

• Positive covenants: These are actions the borrower must take, like maintaining insurance on collateral or complying with all relevant laws and regulations;

• Negative covenants: These restrict certain actions, like taking on additional debt, selling significant assets, or making large capital expenditures without the lender's approval.

If you need help understanding the covenants in a loan agreement, contact us today.

How can I protect my business when taking out a loan?

Here are some key steps to protect your business when taking out a loan:

1. Read the loan agreement thoroughly and make sure you understand all the terms and conditions;

2. Seek advice from a solicitor to make sure the loan agreement is fair and you're aware of all legal implications;

3. Make sure you can meet the repayment terms without straining your cash flow;

4. Choose a loan that fits your business needs;

5. Don't be afraid to negotiate the terms of the loan to suit your business's needs and capabilities better;

6. Only borrow what your business needs and can realistically repay to avoid unnecessary debt;

7. If you encounter financial difficulties, discuss them with your lender as soon as possible to explore potential solutions;

8. Be aware of any covenants in the loan agreement and make sure your business complies with them to avoid penalties or default.

What are default clauses in a loan agreement?

Default clauses outline specific conditions under which the lender can demand immediate repayment of the loan or take possession of collateral if the loan is secured.

Common default conditions include:

• Missed payments

• Breach of covenants

• Insolvency or bankruptcy

• A significant negative change in the borrower's financial condition or business operations;

• Misrepresentation.

Is a loan agreement legally binding?

Once both parties (the lender and the borrower) have signed the agreement, it becomes a legal contract. This means that both parties must follow the terms and conditions outlined in the agreement.

Furthermore, if either party fails to meet their obligations under the agreement, the other party can take legal action to enforce the terms of the contract.

How can a loan agreement be enforced?

If a loan agreement is defaulted on, it's generally better to speak with the borrower in the first instance to understand why the default happened and what can be done about it.

If this doesn't resolve the issue, you can take steps to recover the loan according to the terms of the agreement. However, it's important to follow the terms precisely to avoid breaching the contract yourself.

The process of enforcing a loan agreement usually includes:

1. Sending a solicitor's letter detailing what is owed and how the loan agreement has been breached;

2. Proceeding with the pre-action protocol;

3. Making a court claim.

As noted, you should follow the correct procedure to avoid inadvertently harming your case. In particular, following the pre-action protocol before bringing a court claim.

A solicitor can help you understand the process and support you in enforcing a loan agreement.

Contact us today to find out more.

What is the difference between a bank loan and a commercial loan?

Bank loans can be for personal or business use, while commercial loans are exclusively for business purposes often used for activities like purchasing equipment, expanding operations, or managing capital.

Commercial loans can include term loans, lines of credit, and equipment financing, among others. They often have specific, usually more complex terms and conditions tailored to the business.

Who prepares a loan agreement?

Usually, the lender's legal team or solicitors prepare the loan agreement. Then, the borrower reviews it. The borrower should have their solicitor review the agreement too, to make sure it's fair and that the borrower fully understands the terms and conditions.

If there are any terms that the borrower finds concerning or would like to negotiate, this can be discussed between the borrower and lender, often with their respective legal representatives involved.

What is the difference between a commercial loan agreement and a promissory note?

A commercial loan agreement is more detailed and complex, covering various terms and conditions, while a promissory note is typically less detailed and used for straightforward loans, such as personal loan agreements.

Get expert help with loan agreements from Lawhive

Choosing Lawhive for drafting and reviewing your commercial loan agreements means you benefit from up to 60% savings compared to traditional high-street firms.

With our fixed-price quotes, there are no hidden fees, ensuring full transparency and peace of mind.

Our network of fully regulated and vetted commercial solicitors offers, fast, reliable advice and support online, making the process efficient and stress-free.

Contact us today for a free case evaluation and quote.