What is Loan Agreement?
A Loan Agreement is a legal contract between a borrower and a lender regulating the mutual promises made by each party. It is a formal document that evidences a loan. The parties to a loan agreement can be a lending institution, friends, family member and so on.
A loan agreement is essential irrespective of the fact of who each party is. Furthermore, It serves as a legal document for settling disputes that may arise between the borrower and the lender later. This document records the terms between the parties including the method and amount of repayment of loan and also the penalty in case of default of such payment.
People also refer to a Loan agreement as Acknowledgement of Debt, Acknowledgment of Loan, Agreement for Loan, Agreement for Repayment of Loan and Agreement to Advance Money.
A document identifies the following basic elements:
- Borrower: (the “buyer” or “payer”) who is receiving the money and will repay it back
- Lender: (the “issuer”, “maker”, “payee”, or “seller”) who is giving the money and will get the money back
- Principal Amount: the sum of money borrowed
- Interest: additional money owed, usually a percentage, based on the amount borrowed
- Maturity Date: when the money shall be repaid to avoid being in default
Applicable laws
This agreement is subject to the broad principles of Contract Act 1872 . The Companies Act, 2013 regulates the giving of loans, guarantees or security by companies to their directors (whether directly or indirectly).
Banks must comply with directions issued by the Reserve Bank of India regarding charging interest rates.
Benefits Of A Loan Agreement
The essential benefits of such agreements among family members or friends are as below:
- In case the Borrower is not able to repay the loan amount, the Lender can always take the written document to the Court as proof of the transaction and claim the money from the Borrower.
- If there is any dispute regarding the amount or rate of interest or the time limit for repayment etc. the agreement stands as a strong proof to exactly know the actual values of these.
- No fraud can be committed by either parties and the possibility of such frauds are minute.
- The signatures of both parties are clearly evident in the document and hence forging signatures and making fake agreements is definitely impossible.
Key Elements of a Loan Agreement
It should consist of all the necessary terms and conditions. The following are important terms that must be included in an agreement among others:
- The relevant personal details of the parties such as full name, residential addresses and ages of the parties to the agreement,
- Reasons for the loan,
- Amount paid and the method of payment,
- Duration or the term of the loan,
- Security required as collateral (if applicable),
- Method of repayment of the loan,
- Interest rate (if any),
- Penalty clause explaining the details of what the penalty would be if the borrower defaults in repaying of the loan,
- General clauses such as termination of agreement, applicable laws, arbitration clause, etc.) and
- Date of signing of the agreement.
FAQs
It must be printed on a judicial / e-stamp paper of the correct value and signed by both parties.
In general, a loan agreement is more formal and less flexible than a promissory note or IOU. It is also used for more complex payment arrangements, and often gives the lender more protections such as borrower representations and warranties and borrower covenants.
The agreement can always be modified or altered to either include any new terms and conditions or to delete any terms and conditions. The modifications must be by the mutual consent of both the parties and should be drafted on a separate document and signed and attested by a Notary. Two witnesses also need to sign the amendments.
Hey @HarshitShah
Yes. Any time the terms of the agreement change, this should be documented in a new contract. The new contract should also make clear this contract replaces the old contract.