What is a loan agreement?
A loan agreement is a formal contract where the lender stipulates the binding terms and conditions to which the borrower must agree to in order to receive a loan. It also sets forth the amount of the loan, the borrower's collateral, the repayment plan, term and penalties (such as late fees) should the borrower default.
More on loan agreements
Loan agreements are required by state and federal regulatory agencies in order so that both parties – the lender and borrower – understand their legal obligations. A loan agreement also spells out the purpose of the loan, be it a personal loan, business loan, mortgage or car loan. Whether the loan originates from a lending institution, family member or friend, the loan agreement serves as legal documentation if disputes must be settled in court.
Personal loan agreements
A loan from friends or family can become a minefield of vague expectations or unmet promises. No party should be embarrassed about creating a legal loan agreement. When entering into an agreement for a personal loan, borrowers and lenders should stipulate the formalization of the loan contract. This protects both parties. Loan agreement templates are available on the internet. The agreement should outline:
- Total amount borrowed
- Any interest rates
- Repayment contract (length of term, payments or lump sum)
- Listing of collateral
- Dispute remedies including seizing collateral, undertaking arbitration or legal action
The personal lender may also request the borrower's spending plan and periodic financial updates. Finally, the lending agreement can outline a list of relief options such as modifying the term or amount on monthly payments.
Standard legal terms of a loan agreement
Whether the loan is from a lending institution or private party, there are standard legal terms applied in the contract. These include:
Parties in the agreement
Details identifying the lender and borrower, including pertinent addresses and phone numbers.
Interest and terms
Interest charged on the principal and the amortization schedule. Terms include the Annual Percentage Rate (APR), principal and length of loan. Repayment schedules can include weekly, monthly, bi-monthly or quarterly installments.
Defines how the loan funds will be used.
Prepayment and cancellation provisions
Prepayment penalties protect the lender against loss of interest payments. They are more common on vehicle loans but also can affect the refinancing of a mortgage.
Outlines the collateral that secures the loan. Can include a home (for mortgage loans) or the vehicle (for automobile or truck loans).
Stipulates that conditions of the loan agreement are separate. If a mediator or court rules that one section of the agreement cannot be enforced, all other conditions remain intact.
Lender and borrower agree that if a payment is later than the stipulated payment period, the borrower will be charged a certain amount.
Outlines conditions under which the lender may demand immediate payment on the outstanding amount. These may include non-payment, the borrower's loss of job, business failure, insolvency, or a breach of the terms outlined in the loan agreement. It may stipulate terms for the lender to seize collateral pledged against the loan.