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Tip of the Week
Forbearance Agreement vs. Payment Deferral
When is it appropriate to use a forbearance agreement rather than a payment deferral (or modification)?
First, it must be reiterated that IF the guaranteed interest in a 7(a) loan is sold in the secondary market, any action that alters the original stream of payments is subject to the terms contained in the Form 1086. Essentially, that document grants a lender unilateral authority to defer or reduce payments one time for up to three months. Anything beyond that requires approval of Colson and the investor.
Second, if the guaranteed interest in a 7(a) loan is sold, and the loan payments become 60 days or more past due (and is not likely to be reinstated very promptly), but is still deemed to potentially be viable, it is probably in the lenders best interest to buy back the guaranteed interest and then have the flexibility to modify payments in the course of a workout. (If the situation does not seem salvageable, then the lender may opt to repurchase or have SBA repurchase the sold portion from Colson - see SOP 50 50, Chapter 9.)
As stated in a previous email article, payment deferrals, or even modifications (i.e. reductions), are usually only applicable to situations where there is a short-term problem with an identifiable, near-term solution. If the problem cannot be resolved by granting a temporary reduction or cessation of payments, then the lender must evaluate the prospects for a workout.
FORBEARANCE - The act of forbearing or refraining from something. The act by which a creditor extends time for performance of a required condition or payment of a debt.
Forbearance agreements usually are more suitable to workout situations where the lender needs to keep a "short leash" on monitoring the borrower's performance on specific issues because of uncertainty about the plausibility of an ultimate solution/resolution. A lender has the most latitude to offer forbearance terms when the guaranteed interest in a loan is not sold to an investor. Forbearance actions may be applicable to all types of loans (not just SBA program loans). In the SBA arena, they may be applicable not only to 7(a) loans but also to direct/504 loans, Express loans, etc.
Essentially, forbearance involves the lender temporarily abstaining from asserting its legal rights/remedies that arise due to some form of default, in return for the borrower performing certain actions (usually towards curing the default) which are date, time, and location specific.
For example, let's say that the lender has been notified by a landlord that the tenant (borrower) is in default under the terms of their lease. Technically, per the terms of a landlord's waiver and consent, and the lender's security documents, the lender may have the right to enter the premises and take possession of certain collateral. Obviously, this would most likely result in the business ceasing to operate, which probably harms all parties involved. The lender might agree to forbear from taking such action in exchange for documented proof that the lease default is cured by a specified date and time (e.g., confirmation from the landlord or his agent that the default has been resolved).
Forbearance agreements may be very short and concise covering one specific action on a one-time basis. Or they may be complex involving several actions/issues and covering a considerable period of time. If covering an extended period, there should be short-term benchmarks, at fairly frequent intervals, to monitor compliance and progress. Forbearance agreements should be tailored to fit the situation being addressed. Must forbearance agreements be in writing? Not necessarily. It may be a simple verbal agreement to forbear for a short time to give the borrower time to resolve the problem (e.g. hold off filing a legal action until Friday by which time the debtor must have completed some action). When they are in writing, must they be drafted by an attorney? Not necessarily. We at sbaAccess can guide you on a case-by-case basis as to when legal counsel should be involved. [We do not give legal advice.]
If you are already a lifeline client, use that service by sending us an e-mail or give us a call to engage in the technical assistance that is available to you ongoing. If your institution is not yet a client, a workout/forbearance situation would present a good opportunity to become one.
Take the Right Approach.
John Cumbey, Brian Burke, Karen McHugh
SBA Access ©2009 - All Rights Reserved
All content is copyrighted and unauthorized use is strictly prohibited. If you would like to quote any part of this text, email bburke@sbaaccess.com or kmchugh@sbaaccess.com for permission.
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