Loan Modifications: The “Write Stuff” for Lenders

By Joseph Garibyan

In this economic environment, there’s a good chance that even the best of your borrowers will ask you to modify the terms of their commercial loans.  Loan modifications are commonly used when restructuring loans or dealing with borrowers who are on the verge of default.  The terms of a loan modification can include a wide range of changes to the loan terms, from extending the maturity date to adding collateral.  Modifications are an excellent way to save the relationship with the borrower and avoid costly alternatives.

But lenders should be aware of what they are agreeing to and always memorialize the agreement in writing to avoid legal disputes. Oral agreements and handshake deals, even with your best borrowers, are shaky business and should be avoided.   The Statute of Frauds is an important consideration when it comes to the enforceability of any contract, including loan modifications. This statute requires that certain categories of contracts must be put in writing to be enforceable. While lenders often look to extension provisions of the original loan agreement to avoid preparing additional documents, an extension provision alone is unlikely to meet the Statute of Frauds requirements. Therefore, a loan modification must be in writing.

Borrowers facing hardships can make a compelling argument in court to prevent the enforcement of loan documents on such legal doctrines as promissory estoppel and waiver if the borrower and lender entered into oral agreements or confirm their agreements through emails.  It is highly recommended that in the lead up to a loan modification agreement, any telephonic and email discussions with borrowers clearly indicate to the borrower that no agreement to modify the loan will be reached until both parties sign a written loan modification agreement.  The loan modification agreement should also include an “integration clause” which states that all prior oral discussions and written statements or agreements are superseded with the terms of the modification agreement.

A lender’s lien priority is a major consideration for all loans secured by real estate.  Oral modifications are a slippery slope to losing lien priority, creditor rights and defenses under the loan documents, and the ability to enforce personal guarantees associated with the loan.

Maintaining the first position is vital for a lender looking to modify their loan. To secure lien priority, lenders may need to prepare a modification of the security instrument and record the document. Additionally, obtaining the proper ALTA endorsements for the lender’s title policy is generally recommended.

When preparing loan modifications, it is essential to prepare the note and security instrument and any separate loan security agreements. Any guaranties in the original loan documents should also be reaffirmed with a reaffirmation of guaranty. Lenders should consult with an attorney to ensure all necessary documents are prepared correctly.

In conclusion, loan modifications are an excellent way to save the relationship with the borrower, avoid costly default enforcement alternatives, and preserve rights and defenses under the loan documents. Lenders should be aware of what they are agreeing to and always memorialize the agreement in writing to avoid legal disputes.

About the Author

Joseph Garibyan

Joseph Garibyan is a Partner at SW&M and leads the firm’s Commercial Lending, Privacy and Cybersecurity and Bankruptcy practice groups. Joseph is also a member of the firm’s Compliance practice group. Prior to joining SW&M, Joseph served as General Counsel […]

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