Obtaining a Loan - Financing Documentation

The lending of money can be a simple process or a complicated transaction. This process is for the individual or business that, for whatever reason, is loaning money to another individual or business. Examples of situations where this process may be appropriate include the following: when a family member loans money to another family member, when an employer loans money to an employee, or when a friend loans money to another friend’s start up business.

When you are ready and the retainer has been accepted, we will document the following transactions, as appropriate:

1) The appropriate promissory note:
  a. Company loaning to an individual
  b. Company loaning to another company
  c. Individual loaning to another individual
  d. Individual loaning money to a company

2) An appropriate security agreement
  a. The appointment of a personal guarantor as a means of securing a loan
  b. A security agreement is the appropriate security for personal property
  c. A mortgage is the security instrument for real property

Overview
Because our amount of time in the transaction is limited, we are not able to make a legal opinion as to the enforceability of the notes. The ability to enforce the note may be impaired by many factors, including bankruptcy, validity of incorporation, capacity of the individual, state usury laws, consumer protection laws and the reasonableness of the transaction in general.

This process is designed for small private loans. Individuals should be aware that consumer protection laws regulate financing transactions and if multiple loans are entered into a company or individual may fall within the regulations.

Why Should I Document My Loan?

Regardless of the amount of money involved, the ability to enforce an agreement to lend money becomes rather difficult for the lender without a document showing the existence of the transaction. The obvious disadvantage is that the borrower will attempt to reclassify the loan as a gift or extend the time table for repayment. Therefore, it is in the lender’s best interest to protect himself/herself by creating a document that sets forth the specific terms and obligations between the parties to the transaction.


Loaning Money to a Person or Business

I. Obtaining a Loan
In order to properly document a loan, you will want to make sure that a promissory note is in place that specifies the parties to the transaction (i.e., the legal names of the debtor and creditor) and outlines the respective rights and obligations of each party.

A. Promissory Note
The promissory note is essentially the written agreement between the parties to a loan and is the most basic and necessary instrument when obtaining a loan note. A promissory note is generally considered an “unsecured debt” if there is no collateral or security interest supporting the agreement. This has serious implications for the lender if the debtor owes money to several creditors, especially to creditors who have obtained a “security interest” in their loans with the debtor. It basically means that if for some reason the debtor becomes insolvent and has to file for bankruptcy, the secured creditors will be paid before any unsecured ones. It is also important to note that most states have enacted “usury laws” which prevent creditors from charging unlawfully high interest rates for their loans. When determining the interest rate the loan, it is therefore important to research your applicable state’s usury laws to ensure compliance.

When you are ready to begin the process of obtaining a promissory note, email us at admin@goodrichfirm.com in order to unlock your forms, receive a retainer agreement and schedule lawyer times (upon request).

B. Security Instruments
In many cases, your promissory note will also be accompanied by at least some form of security, which may be in the form of a personal guaranty or a security agreement covering certain collateral. As a creditor, it may be possible to protect certain interests in collateral against other creditors by recording a financing statement with the Alabama Secretary of State.

  a. Personal Guaranty. One way for a creditor to protect itself from the possibility of a debtor becoming unable to repay an obligation is to require a third party to serve as a personal guarantor to the transaction. In most cases, this will usually require all three parties (debtor, creditor, and guarantor) to sign an agreement setting forth this condition. Generally, the creditor must try to collect from the debtor before going after the guarantor.

  b. Security Agreement. Another common way for a creditor to protect itself from a debtor’s default on a financial obligation is to require the debtor to sign a security agreement. By doing so, the debtor agrees to give the creditor a security interest in the collateral listed in the security agreement. Usually, this means that in the event of the debtor’s default, the creditor may have priority over other creditors if the collateral specified in the security agreement is sold.

  c. Mortgage. When a loan involves the purchase of real estate, a creditor will almost always take out a mortgage on the property to protect its interests. A mortgage is a document that gives the creditor a secured interest in that particular piece of property. The mortgage serves as a public record for any future purchasers of the land that an outstanding debt exists on the property and must be paid before the debtor/seller receives any money from the purchase.

II. Document Execution
A. Generally speaking, a promissory note is a signed document that is not signed in duplicate. When the indebtedness is paid, the holder (or lender) of the note will write cancelled on the promissory note to show the obligation has been satisfied. Accordingly, only one copy should be made. Photocopies are useful as evidence of the transaction, but should be made with a “Copy” legend.

III. Filing of the Security Interest
A. Personal Property. In order to perfect a security interest in personal property, in most states the law requires the creditor to file a financing statement with the state where the property is located. In some instances, a financing statement may not be required for certain types of collateral, particularly when the creditor is already in possession or has control over the collateral.

B. Real Estate. Generally, in order to perfect a security interest in real property, the creditor must file the mortgage in the county where the property in question is located. The recording fee is a percent of the mortgage amount, so you should prepare accordingly. Unrecorded mortgages have enforceability issues against other recorded mortgages.

If you would like to discuss methods of securitizing your loan through other corollary agreements, please contact our attorneys for additional help.