Your business is having financial issues, cash flow is tight, and you have defaulted on your business loan. What happens next and how do you work out of this situation? Having a brief understanding of commercial loan workouts is important for business borrowers to be able to negotiate with their bank on terms that may include, among other things, loan principal and interest reductions, help avoid bankruptcy, and keep your business operating. The bank negotiation process can be complicated, so seeking legal counsel to assist in the workout process is key to getting desirable results. Here is some valuable information about commercial loan workouts and what to expect during the process.
What is a Commercial Loan Workout?
The need for a commercial loan workout stems from a default on the underlying business loan. A loan workout is an agreement between the borrower and lender that alters the terms of the loan for a distressed borrower. A default is most commonly payment-related or other monetary defaults, but can also be caused by a general deterioration of the business’ financial performance or its underlying collateral. A technical default such as not maintaining certain financial ratios as outlined in your loan documents. The goal for a borrower is to get a negotiated settlement they can afford. The lender usually assigns the loan to the workout or special assets group where the borrower is now dealing with a new banker that it does not have any relationship with. Borrowers should not negotiate on their own, as there are many experienced attorneys who are well versed in working with financial institutions to arrange prudent loan workout arrangements.
What Happens Inside a Financial Institution?
When the lender has determined the underlying business loan to be no longer a safe investment, they assign the loan an adverse classification. Business loan workouts are handled by special servicers within the bank’s lending group, known as a “special asset” group. The adverse credit classification most often results in a loan acceleration, a default interest rate that is higher than the note rate, and a demand for payment in full of the outstanding debt. The loan is now considered a non-performing asset, and the business loan workout or special asset officer is tasked with reducing the outstanding balance of the loan to protect the lender’s position. Beware, their initial approach is biased towards the bank, and does not begin with a mutually beneficial workout plan, so it is important to seek legal advice from an attorney that has extensive knowledge of business loan workout arrangements.
How Does An Attorney Assist?
Legal counsel will be prepared to address whatever loan revisions the lender may suggest. Lenders know borrowers are usually in a vulnerable position during workouts, and may try to take advantage of the bad situation. Your attorney will take over all communication with the lender and the bank lawyer to shield you from being taken advantage of.
In loan workouts, almost everything is subject to negotiation. Your attorney will review the settlement terms proposed by the lender, and negotiate a business debt settlement agreement that addresses interest rates, monthly payment amounts, payment frequency, loan balance reductions, and any other legal issues. Loan modifications can provide the business with additional time to improve business operations so that the business owner will no longer be in default. Ultimately, the loan modification agreement would result in a loan balance reduction or reduced payoff and release of collateral and other legal responsibilities.
Remember, the goal of a business loan workout is for the bank to either have the borrower leave the bank portfolio entirely, or to right side or improve the loan so that it can be re-classified as a performing loan in the bank’s lending portfolio. Having professionals to assist you with achieving your goal and the bank’s goal is paramount.
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