What should a loan agreement include?

Most people or companies need to borrow money at some stage. In the past, they would traditionally look to banks, building societies or credit unions for a loan; today, it is becoming more and more common for friends and family to lend money to their loved ones. A report by Aviva on family finances found that the main source of debt for 18- to 35-year-olds is a loan from a friend or family member.

Creating a loan agreement

Whoever you lend money to and however much you trust them, it is vital to have a written agreement. This does not have to be a long, complex document and will provide the lender with protection if the debtor defaults on the loan. The first thing to do is to discuss with the borrower how and when they will repay the loan. A realistic and achievable payment schedule should be agreed upon, which should set out the repayment amounts and timings. You should also discuss what will happen if things do not go according to plan and the borrower is unable to make the repayments on the agreed dates.

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Once all the terms and conditions have been agreed, they must be set out in writing and include key legal clauses. It may be worth seeking legal advice from a reputable firm of solicitors, such as Parachute Law, to professionally draft the agreement.

What important clauses should be included?

The agreement should start by naming the parties involved in the transaction, including their full names, addresses and contact details. It must also include all key dates, such as when the agreement becomes effective and when the money will be transferred. The amount of the loan must be specified clearly in both numbers and words to avoid any potential errors. The term of the loan must also be defined, which should include the date when the loan will be paid back in full. The term should ideally be less than five and a half years from the start date so that there is no risk of it becoming statute barred. You can find more information on this on the National Debtline website.

The agreement also needs to detail how and when the repayments will be made. This may be by periodic instalments, a lump sum, or a combination of both. If payment will be by bank transfer, you can also include the account details. You may intend to charge interest on the loan; if so, you need to specify the interest rate, how it will be calculated, and any option to avoid paying the interest such as by early repayment.

You also need to include when a repayment will be considered late and what will happen if the terms of the agreement are broken. You must also specify the law and jurisdiction of the agreement, as this will be important if legal proceedings are ever required. It must be signed by both the lender and the borrower and witnessed by someone independent.

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Once the agreement has been signed, you can issue the loan. This should ideally be by cheque or bank transfer so that there is a record. If you have any doubts, consider instructing a solicitor to draft the agreement to provide protection and peace of mind.

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