Agribusiness Loans: Legal Issues, Terms, and Interest Rates

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Agribusiness Loans Legal Issues, Terms, and
Interest Rates

• Chapter 2

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Promissory Note
Promissory Note -- written evidence of a debt.
It is the loan document that creates a contract
between the parties.
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Elements of a Note

• Names of borrower and lender
• A promise to pay a specific amount
• The due date
• Manner of payment
• The interest rate

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Elements of a Note

• Collateral
• Penalties for lat or nonpayment
• Whether it can be prepaid
• Dates of creation of the instrument
• Signature of borrower

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Parties to Loan Transactions
The parties in a loan transaction include the
borrower, lender, and sometimes a third party.
Third parties assist in the transaction.
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Borrower
Borrower becomes the debtor and must make
repayment under the terms of the loan. They are
the maker of the note.
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Lender
Lender provides the initial funds to the
borrower and can be a private party, commercial
bank or other depository institution, a
government sponsored agency or other business.
They are known as the beneficiary of the note,
they receive the benefit of the interest and
principal payments.
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Third Parties
Third Parties include escrow companies, dealers
and vendors who provide personal property to the
borrower, possible asset recovery entities, such
as the local court system.
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Security Agreement

• A security agreement is a standardized
  description of the assets pledged as collateral
  for the loan.
• The collateral is classified by type of asset
• Inventory
• Equipment
• Real Estate

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Mortgages Versus Deeds of Trust

• Mortgage Document a pledge of the real estate
  to the lender as security for the debt
• Deed of Trust provides temporary title to the
  collateral to an independent third party, usually
  a title or escrow company. Only comes into
  effect should the borrower fail to comply with
  the terms of the promissory note. This is called
  default.

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Other Loan Terminology

• Principal the amount originally borrowed or
  owed to the lender.
• Interest the rent charged by the lender for
  the use of principal.
• Loan Term the length of time until the loan
  contract matures.
• Short term loans up to one year
• Intermediate term loans from one year to ten
• Long term loans longer than ten years
• Term debt any loan with a term of more than
  one year

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Amortization

• Amortization the periodic payment of the
  principal to extinguish the debt over the loans
  term.
• Most agribusiness loans are fully amortizing, the
  periodic payments are sufficient to extinguish
  the debt over the term or the loan.
• Partially amortizing loans have a balloon or lump
  sum payment at the end.
• More common types of loans than partially
  amortizing loans are interest only.

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APR

• Annual Percentage Rate or APR - the actual or
  effective rate of interest for the loan

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Points

• Prepaid Interest is known as Points
• One point is 1 of the loan principal
• Points do not reduce the amount of interest you
  pay over the loans term
• They merely enhance the yield by the lender.

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Amortization Schedule
An amortization schedule is an algorithmic table
that details the repayment of the loan principal
and the payment of interest for the entire term
of the loan.
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Life Cycle of a Loan

• There are seven phases to the loan process
• Application the building of a loan file,
  provides information for the decision maker on
  whether or not to grant the loan. Materials they
  require are employment history, tax returns,
  insurance, and property holdings and indebtedness
• Processing the loan file is organized to
  facilitate underwriting
• Underwriting the loan file is scrutinized so
  that a determination can be made to either
  approve, deny or suspend the request.

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Life Cycle of a Loan

• Documents Preparation of contractual documents.
  A security agreement for the loan collateral, or
  mortgage must be prepared. Truth in lending
  documents. Could be as much as 10 pages for a
  short term loan and 30 for a real-estate
  mortgages
• Funding - review for legal compliance, if funding
  goes into escrow the funds will not be released
  until all contractual obligations are met.

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Life Cycle of a Loan

• Closing The formal release of funds to the
  appropriate party occurs at closing. For property
  this occurs after deed transfer. Vehicles when
  legal title is provided to lender
• Servicing performed by the original lender.
  More sophisticated today.

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Default and Foreclosure
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Determinants of Interest Rates