Commitment to lend: Overview, definition, and example
What is a commitment to lend?
A commitment to lend is a formal agreement or promise made by a lender, typically a financial institution or individual, to provide a specific amount of funding or credit to a borrower under agreed-upon terms. This commitment is often outlined in a loan agreement or term sheet and can include details about the loan amount, interest rates, repayment terms, and other conditions. A commitment to lend may be unconditional or subject to certain conditions, such as the borrower meeting certain financial criteria or providing collateral.
For example, a bank may issue a commitment to lend a business a specific amount of money to help fund an expansion, contingent on the business meeting certain financial metrics.
Why is a commitment to lend important?
A commitment to lend is important because it provides clarity and assurance to the borrower that they have access to the necessary funds, allowing them to plan and make decisions based on the promise of financing. For lenders, this commitment formalizes their intent to extend credit, which can help manage risk and ensure both parties understand the terms and conditions of the loan. A commitment to lend can also strengthen the relationship between the borrower and lender, as it signals a willingness to support the borrower’s financial needs.
For businesses or individuals seeking funding, securing a commitment to lend is a crucial step in obtaining financing and moving forward with business plans or personal financial goals.
Understanding commitment to lend through an example
Imagine a small business that applies for a loan to fund an expansion. The bank reviews the business’s financial health and, after assessing the risk, agrees to provide a loan of $500,000 at a 5% interest rate over 10 years. The bank issues a commitment to lend, outlining the loan amount, interest rate, and repayment terms. This commitment assures the business that the funds are available for the expansion, subject to the business fulfilling any remaining conditions, such as providing collateral.
In another example, a homebuyer approaches a bank for a mortgage loan. After reviewing the buyer's financial situation, the bank provides a commitment to lend the buyer $250,000 for the purchase of a home. The commitment specifies that the loan will be disbursed once the buyer completes all necessary paperwork and the property passes an appraisal.
An example of a commitment to lend clause
Here’s how a commitment to lend clause might look in a loan agreement:
“The Lender commits to lend the Borrower the principal sum of $[amount] on the terms set forth in this Agreement, subject to the Borrower’s compliance with the conditions precedent as outlined in Section [X]. This commitment is conditional upon the Borrower’s satisfaction of the necessary financial covenants and submission of required documentation by [date].”
Conclusion
A commitment to lend is a formal agreement by a lender to provide financing to a borrower under specific terms and conditions. It is a crucial element of the lending process, offering borrowers assurance that they will receive the funds they need, while also setting clear expectations for both parties. Understanding and formalizing a commitment to lend helps ensure that the lending process is transparent, reducing the potential for misunderstandings or disputes down the line.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.