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A loan agreement is a contract between a borrowing party and a lending party, such as a bank or other financial institution.

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What is a Loan Agreement? 

A loan agreement is a contract between a borrowing party and a lending party, such as a bank or other financial institution. There are many different types of loan agreements, however, they all follow a similar pattern. This agreement will protect both parties during their financial transaction, whether it is related to real estate, business, or other finances.

The loan agreement will typically have detailed information about the borrower, including their personal information, creditworthiness, income, and expenses. This information is required in order for the lender to determine if they are willing to proceed with the transaction.

The last section will detail the information about the loan, including the term for the loan, the interest rate, the total amount of the loan, and other financial specifics.

Loans are a common part of day to day finance in our society. Some are large loans provided by banks for home buying or education, while others are to consolidate student loans, or for the purchase of automobiles. The most frequently used type of loan is much smaller in size. These small or personal loans often occur between small businesses and individuals, or among family and friends. It is often said that loaning money is the fastest way to ruin a relationship; however, when you follow a sample loan agreement, you can head off many problems. When you loan any amount of money, be it two hundred dollars or two thousand, it’s important to fill out and sign a loan agreement template.

Why should you use a free loan agreement template when loaning money? Because of what can happen when you don’t. When loan agreement templates aren’t followed, the lending party can lose some or all of the money owed with no certain legal remedies. Without following a sample loan agreement, you can also not enforce when the loan is to be repaid; in fact, you could find yourself waiting for years for repayment.

In legal cases involving loans without loan agreements, the court has to try to determine who is telling the truth about the terms of a loan, or even if a loan occurred. Even if you are lending to family or a friend you are certain would never cheat you, it is important to complete a free loan agreement template. This loan agreement can work to not only protect your loan, but also the integrity of your relationship.

Also, it tidies up the loan by setting out payment requirements. Is the loan to be paid back in installments, or all by a certain date? Is there any interest being charged on the loan, or late charges if the loan is not paid back?

While these may not be things that lenders want to consider when loaning to someone they trust, it is important to protect both parties when lending money. If the person borrowing the money will not be able to pay it back for several months, they might feel more comfortable with the protection of a loan agreement template that states that prior to the exchange of funds. Filling out and signing a free loan agreement template takes very little time and effort, but can prevent many legal and personal problems later on.

The Essential Guide to Loan Agreements

By FormSwift Editorial Team
June 14, 2018

Introduction

Here is our guide to loan agreements. There are many different types of loans for many different situations. We begin here by looking at loans between friends and family. We cover what to consider before entering into such an agreement, as well as how to make sure both parties are protected. From there, we cover important things to know about several different loan agreements, including home loans and small business loans. We end by discussing your options for amending or restructuring bank loans.

Basics of Loan Agreements

Loan agreements prevent lenders from being cheated while clearly explaining loan terms to protect all involved parties. A well-crafted loan agreement should clearly define all components of a loan. You want to make sure the language you use prevents any possible misunderstandings. Loan agreements should make clear that a loan is not a gift. They should, therefore, detail payment requirements--frequency of installments, full repayment date, late charges, etc.

Loan Agreements vs. IOUs vs. Promissory Notes

Each of these agreements involves the lending and repayment of a sum of money. That said, while similar in many ways, there are important differences between each of these. Here’s a rundown:

  • IOU: the simplest and least formal of these three agreements. IOUs typically do not require interest on repayment, and merely require the borrower’s signature for formalization.  
  • Promissory note: there are two types (secured and unsecured).
    • Secured promissory notes include collateral terms--items of value the lender can take if the borrower defaults. Secured notes also may include interest.
  • Loan agreements: the most formal of these three agreements. Loan agreements are generally used when the transaction involves a substantial sum of money. Loan agreements also enable lenders to charge late fees and other penalties for late payment.

They can also include joint and several liability--which holds all borrowers responsible if a single party does not repay the loan--and a right to transfer if the lender wants to transfer the loan to someone else.

Small Business Loan Agreement Considerations

Small business loans come with their own unique considerations. The most important include:

  1. Rate of interest: fixed or floating.
  2. Penalty of early repayment
  3. Additional interest for delays and other charges

Tips for Reading and Understanding a Loan Agreement

Loans can be complicated and long. It is tempting, therefore, to merely skim the agreement information. While we recommend you carefully read the entire loan agreement, be sure to pay careful attention to the following sections:

  1. Finance charge: the finance charge is the cost of credit. The finance charge section will include associated charges required in order to receive the loan in addition to interest, such as document preparation fees.
  2. Annual percentage rate (APR): the interest rate paid to a creditor on a yearly basis. This includes all expenses (interest, origination fees, discount points) and is the amount you should use to compare loans.
  3. Amount financed: the dollar amount that you borrow
  4. Schedule of payments: the number of payments, the amount required for each payment, and when payments are due.
  5. Total payments: total amount you will pay if you make all scheduled loan payments.

How to Approach Restructuring a Loan Agreement (with your bank)

There are both good and bad ways to approach a bank with a request to restructure a loan. The key to giving yourself the best chance of convincing your bank to restructure your loan is to focus on things a bank may be willing to renegotiate. These include:

  • Extending maturity date
  • Modification of financial covenants
  • Interest only payments

And here are things banks generally are NOT willing to renegotiate:

  • Deferment of principal and interest payments
  • Reduction of interest rates
  • Forgiveness of principle or past due interest
  • Converting debt to equity

Conclusion

Loan agreements are complicated arrangements that require substantial financial literacy. In the case of loans between loved ones, loan agreements also require the navigation of complex personal dynamics. Whether you are considering loaning money to a friend or family member, ensuring you fully comprehend a home loan agreement, or are looking to modify a bank loan, we hope this guide provides you a greater understanding of loan agreements.

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