Event of default: Overview, definition, and example
What is an event of default?
An event of default refers to a specific situation or condition, defined in a contract, that triggers a breach of the agreement and entitles the non-breaching party to take remedial actions. Common examples include failure to make payments, violation of covenants, insolvency, or misrepresentation. Events of default are typically outlined in loan agreements, leases, and other contracts where one party’s failure to perform can significantly impact the other.
For example, in a loan agreement, the borrower’s failure to pay an installment by the due date may constitute an event of default, giving the lender the right to accelerate the loan or take legal action.
Why is an event of default important?
An event of default is important because it clearly defines the circumstances under which a breach occurs and the consequences for the breaching party. This provides certainty, reduces disputes, and ensures that both parties understand their rights and obligations.
For businesses, specifying events of default in agreements protects their interests, clarifies expectations, and facilitates efficient resolution of disputes or breaches.
Understanding event of default through an example
Imagine a business takes out a loan from a bank. The loan agreement specifies that failure to make a monthly payment within 15 days of the due date is an event of default. If the borrower misses a payment, the bank can demand immediate repayment of the entire loan balance (acceleration) or enforce its collateral rights.
In another example, a commercial lease includes an event of default clause stating that failure to maintain required insurance coverage constitutes a default. If the tenant lets the policy lapse, the landlord has the right to terminate the lease or seek damages.
An example of an event of default clause
Here’s how an event of default clause might look in a contract:
“An Event of Default under this Agreement shall include, but not be limited to: (i) failure to make any payment when due; (ii) breach of any covenant, representation, or warranty contained herein; (iii) insolvency, bankruptcy, or assignment for the benefit of creditors; or (iv) the occurrence of any other material adverse event affecting the ability of the Borrower to perform its obligations. Upon the occurrence of an Event of Default, the Lender may declare all outstanding amounts immediately due and payable and exercise any remedies available under this Agreement or applicable law.”
Conclusion
An event of default provides a clear framework for identifying breaches and their consequences, ensuring that agreements remain enforceable and fair. These clauses protect the non-breaching party by defining their rights and remedies when the other party fails to meet their obligations.
By including detailed event of default provisions in contracts, businesses can mitigate risks, promote accountability, and ensure efficient resolution of disputes or breaches.
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.