Sometimes, people are afraid to ask the basic questions, for fear that the questions are too obvious or that they should know better. But a question that invariably comes up and which is a great one to ask, is what does it mean to have a good set of loan documents? A complete, quality set of business purpose loan documents provides a lender with peace of mind. Peace of mind that:
- The loan documents reflect all necessary and relevant terms and conditions of the loan being extended.
- The loan documents provide comprehensive protection to the lender and cover a multitude of potentially detrimental scenarios that can arise during the life of the loan.
- The content of the documents, including the security instrument, comply with applicable law and provide a broad set of tools to enforce the terms of the loan and remedies to make the lender whole.
What Specific Documents Should be Included in the Loan Documents?
At a minimum, a set of loan documents should include the following:
- Promissory Note. The Note establishes the borrower’s obligation to repay the loan, with interest, as well as the timing and manner in which payment must be made.
- Security Instrument (Deed of Trust / Mortgage). This includes provisions covering an Assignment of Rents and Fixture Filing. The Security Instrument creates the lender’s security interest in real property and when recorded, that Security Interest is perfected. In the absence of a separate loan agreement, the Security Instrument will outline the events of default and lender’s remedies upon the occurrence of a default.
- Guaranty. The Guaranty allows the lender to seek payment from somebody other than the borrower, which is often critical in instances where the borrower is a corporation, limited liability company, or other entity.
- Environmental Indemnity Agreement. The Environmental Indemnity Agreement protects the lender from liability that arises from hazardous material being released on or from the collateral real property.
- Language Capacity Declaration. The Language Capacity Declaration protects the lender from claims by the borrower that borrower does not understand English and therefore had no idea about the content of the loan documents.
- Compliance Agreement. The Compliance Agreement protects the lender against clerical errors in the loan documents and empowers the lender to have those errors corrected.
- Fillable Certification of Non-Owner Occupancy. The Certification of Non-Owner Occupancy provides a further confirmation, at closing, that the collateral real property will not serve as the principal residence of the borrower, or its principals.
- Fillable Business Purpose of Loan Certification. The Business Purpose of Loan Certification requires the borrower to specify the intended use of the loan proceeds which protects the lender against claims by the borrower that the loan funds were used for a consumer purpose, and thus the loan should be governed by consumer lending laws.
- Disclosures (Balloon, Hazard Insurance, ECOA). The ones listed are common disclosures that are included in Geraci’s basic set of loan documents. Lenders should be aware of state and transaction specific disclosure requirements to ensure that the loan is enforceable to the fullest extent provided in the loan documents and applicable law.
- Entity Certificate. The Entity Certificate should be signed by each entity involved in the transaction (borrower, guarantor, pledgor, etc.) and include representations that the entity was properly formed and is in good standing, the entity documents that were provided to lender represent the current entity documents of the certifying entity, the loan is authorized in accordance with the requirements of the entity documents, and the person signing the loans has authority to sign the loan documents.
What Provisions Should the Loan Documents Cover?
A set of loan documents should include the following terms and conditions:
- Parties to the loan
- Loan amount
- Repayment terms, including applicable interest rate, method of interest accrual, payment type (interest-only or principal and interest), payment amount, payment due dates, required method of payment
- Loan term and maturity date
- Identification of the property being pledged to secure the loan
- What constitutes a default and associated notice and time to cure requirements
- What remedies are available to lender if there is a default, including late charges, default interest rate, the power to foreclose (judicially and/or non-judicial in accordance with applicable state law), and attorneys’ fees
- Usury savings clause
- Choice of law and governing law provisions as necessary
- Whether the borrower can repay the loan before maturity, and any prepayment penalty that lender may charge in the event of such early payment
- What insurance the borrower must maintain during the life of the loan, and lender’s right to force place coverage if borrower fails to do so
- Assignment to lender of any proceeds related to the real property collateral being damaged in any way or taken through eminent domain
- If the lender intends to holdback loan proceeds at closing for some specific purpose (i.e., pay for construction or to make debt service payments), the loan documents should clearly identify the amount being held back, the purpose served by the held funds, and the conditions for the release of such funds to or on behalf of the borrower-
The above represents the bare minimum of what a set of loan documents should cover. In addition, as the complexity of the transaction increases, the necessary terms and conditions found in the loan documents will become more complex as well. In order to ensure that you are properly documenting a loan transaction, you should work with an attorney that is familiar with the nature of your transaction, including potential pitfalls and the best way to protect against those pitfalls through effective drafting of the loan documents. Contact the Geraci Law Firm for a consultation today.
