A loan agreement is a financial contract between a lender and a borrower. This kind of arrangement is legally enforceable for both parties entering into it. It also helps to provide a framework for repaying the original principal sum as well as detailing the overall agreement between the creditor and debtor.
Find out now how loan agreements function in our quick explainer guide below. It details how to better understand what these essential legal documents can be used to do, what information loan agreements must contain, and what happens if someone breaks its terms.
How Are Loan Agreements Used?
Loan agreements are created and used to ensure that both parties honor their commitments to either fund the loan or pay back the money owed. Like most formal contracts this creates legally binding obligations for the signees and compels the borrower to repay the loan amount and the lender to respect the repayment schedule. Find out the differences between loan agreement and promissory note.
Lenders and borrowers may use a loan agreement to formalize a loan to finance the following activities:
- To make a down payment when purchasing real estate
- To fund a student loan
- To purchase expensive items or goods
- To raise business capital
- To formalize a personal loan to close family and friends
What Information Must Be Included in a Loan Agreement?
Loan agreements are comprehensive documents and must include detailed and clear information on the parties involved and the nature of the loan in order to be fully enforceable. It will also need to explain the particulars on the way that the capital will be repaid.
A successful loan agreement should detail the following information:
- The official names and addresses of the signing parties
- The amount of money being loaned
- How and when the principal sum will be repaid
- What percentage of interest will be added to the principal
- Clear instructions for what shall be done if payments aren’t made on time
- How a default situation will be treated
How Are Loan Agreements Enforced?
In most cases, loan agreements never need to be formally enforced and are repaid without any issues. However, if a late payment should arise or one of the parties refuses to uphold their end of the contract then it might be necessary to seek other remedies. For loans over $ 50,000, a statute of fraud provision must be added to make it enforceable.
First of all, it is important to remember that interest should be charged on the money loaned within the agreement. This will allow the lender to preemptively recoup any possible future losses that might occur from a default from the borrower.
The contract itself will provide possible resolution methods should either party breach its terms. This might be done through seizing collateral or trying a method of ADR such as Arbitration.
If all else fails, it might be necessary to seek the help of a lawyer and to enforce the contract through the courts. This is only done in the worse case scenarios, however.