Before lending money to a business, a friend, or another entity, you should always have an agreement outlining every aspect of the transaction. Defining loan terms is a crucial part of the process. Without a loan agreement, the lender may not recover their money, or the borrower may end up with terms they did not sign up for.

The document contains basic information such as names and addresses. It also addresses crucial matters, including the amount of money involved, how interest rates are applied, dispute resolution, applicable laws, the consequences of default, and much more.

The type of loan you offer determines the contents of your contract. A unique aspect of your agreement can be that you require collateral where another lender does not. We have designed a customizable template with these differences in mind. A few tweaks are necessary to personalize it to your needs.

This article takes you through the writing process. Let’s first understand how a loan agreement works.

Contents of a Loan Agreement

Drafting a loan agreement can be simple if you have all the facts ready. The following is the information you need to draft the contract.

Dates

Dates are essential in all business contracts, but especially in loan agreements. Start by writing the date the contract becomes active. You will also mention the date the borrower receives the money and when you expect the final payment.

Personal information

You must have each party’s full name. Designate one space for the lender’s name, whether an individual or a company, and another for the borrower. Correct names are crucial, so you should always double-check to prevent mix-ups.

Loan Terms

Borrowers need to know the loan terms. They should be clear enough to avoid misinterpretations.

• Loan amount: State the money you agree to lend clearly (in words and numbers). Mention any facility fees you will deduct from the amount the borrower receives or add to the amount they owe.

• Interest rates: Explain to the borrower how you calculate the interest. State the rate, such as 10% of the principal per annum, and when it’s applied. Also, tell the lender whether you use a fixed or variable interest application method.

• Repayment plan: Explain how often and how much the borrower should pay at each installment. Depending on the loan terms, they may be required to pay the full amount at once or make weekly or monthly installments. State if payments are applied first to the interest or the principal amount.

Payment Method

Provide the bank account or another method you agreed to for the borrower to deposit the repayments.

Late Payments Repercussions

Explain possible penalties if the borrower does not meet a repayment deadline. A typical penalty is to apply a late fee, which can be a dollar amount or a percentage of the money owed.

Defaulted Repayments

Although you do not hope for defaults, it is good to anticipate the possibility. Explain what happens if the borrower takes too long to make payments or becomes insolvent and the account defaults.

Collateral

State and describe an item the borrower has placed as security should they fail to repay the loan. Collaterals may not be applicable if you are providing unsecured loans.

Early Payments

You may allow a borrower to prepay a loan before it’s due. Let the borrower know if any prepayment penalties or benefits apply.

Representations and Warranties

Both parties should represent their declarations and any warranties they give. For example, the borrower may declare how they plan to use the borrowed money, and the lender can guarantee that they have the legal capacity to provide the loan and do not require third-party approvals.

The Need for Acceleration

Some borrower actions may supersede repayment plans and require them to pay everything they owe immediately. For example, suppose the borrower defaults on other financial obligations or sells a significant portion of their assets without informing the lender. In that case, the loan terms may require the outstanding amount to be instantly due.

Applicable Laws and Dispute Resolution

Mention the laws that govern your agreement. These are typically your state laws. State if dispute resolution will start with mediation before moving to arbitration under your state’s Arbitration laws.

Severability clause

This clause states that if one contract provision is invalid, it will not affect the remaining provisions. The rest of the agreement remains in place.

Signatures

Finally, each party should sign and date the contract to validate it. Feel free to add or remove any provisions in this loan agreement template to suit your needs.