Doing business always involves some amount of risk. In order to get a commercial loan, you have to show that, according to your best estimations, you will be able to repay that loan in a reasonable amount of time. However, things do not always go as planned. When your business starts to struggle, you may miss some of your scheduled payments, and that makes your lender nervous. Your account may be put into “classified” or “special” status once it is identified as high-risk. If this happens, the lender may call in the debt, demanding that it be paid in full immediately, or may begin the process of foreclosure. However, there are several things you can do before the situation escalates to this point.
Understanding Loan Covenants
When you take out a business loan, you agree to many things in addition to the principal amount, repayment period and interest rate. These agreements are called covenants, and you must understand them so you can be sure to comply with them. Some common positive loan covenants include paying business taxes on time, keeping up-to-date financial records and maintaining appropriate insurance policies. Specific financial loan covenants are calculated at the time of loan origination, and focus on how well the business is keeping up with its projections. A customary financial covenant has to do with your company’s asset to liability ratio. If you fail to fulfill any of these covenants, you run the risk of getting into trouble with the lender.
Staying on Top of Your Covenants
Your bank will have specific requirements for reviewing your financial statements. You may be asked to submit them monthly, quarterly or annually, and then someone at the bank will review them to see if you are fulfilling the financial and other covenants. It is vital that you know ahead of time how your business is performing and what your current ratios are. If you know you are not meeting a particular metric, write a letter stating what happened and what you are doing to improve the situation, and include the letter with your financials. This may give you an opportunity for forbearance before action is taken against you.
Proactive Workout Negotiations
A loan workout is a renegotiation of a loan, and may include principal reduction, lowering of interest rates and so on. It may be in your best interests to hire an attorney to help you through this process. If you want to initiate a loan workout, be sure you have all of your information organized before you approach the lender. Have your financial situation professionally analyzed, and include your business projections in the documentation. Your revised business plan and short-term revenue and cash flow forecasts are also important. Once you have all of this information compiled, approach the lender and see what you can renegotiate. Do not wait for the bank to start sending you demand letters.
How Loan Workouts Can Ultimately Help Your Business
It is best to repay your business loans as promised and not resort to a workout. However, sometimes things do not go as planned and a workout is better than foreclosure or bankruptcy. Doing what you can to ensure your company meets its financial obligations proves you are trustworthy and is good business practice. You will also learn a lot about financial and revenue planning, business record-keeping and negotiation.
Before borrowing a large sum of money for your business, do your research and make sure you will be able to repay the loan according to the original terms. Take the time to realistically forecast your future revenue and resist the urge to take out a larger loan than you can handle. If something does go wrong with your business before the loan is repaid, take steps to initiate a manageable workout arrangement. Do not wait for your finances to spin completely out of control.
The content on our website is only meant to provide general information and is not legal advice. We make our best efforts to make sure the information is accurate, but we cannot guarantee it. Do not rely on the content as legal advice. For assistance with legal problems or for a legal inquiry please contact you attorney.