A Brief Introduction About the Personal Loan Agreement
Personal Loans are any amount borrowed for personal finances. These loans are generally not taken for huge sums of money and are more often than not, unsecured. Although the requirements to obtain these loans are practically negligible, the terms should not be taken for granted.
A contract entered into for such loans is a personal loan agreement. It is executed between the lender and the borrower of the money.
The agreement lays out the purpose of the loan, its terms, repayment schedules, and any other matter associated with the loan. The main intention of such a contract is to have recorded confirmation of the debt in place. It also protects the lender from defaults in repayment.
The lenders can be anyone from a bank, a non-banking financial corporation (NBFC), a private lender to friends or family. While the established lenders always enter into a contract, it is beneficial even in the case of personal loan agreement between friends. There are many risks in lending to a friend, and as such, it is always better to avoid conflicts by having an agreement in place.
Who Takes the Personal Loan Agreement? – People Involved
The personal loan contract is between the lender and the borrower of the loan. The lender confirms to give a certain sum of money at an agreed-upon interest rate for a specific period while the borrower agrees to repay the same. The lender can be a traditional bank, an NBFC, or even friends or family. The parties to the agreement can be individuals or establishments.
Further, the agreement can also bind the legal heirs of either party, if mentioned.
Purpose of the Personal Loan Agreement – Why Do You Need It?
The prime purpose of a loan agreement is to have written evidence of all details specific to the arrangement in place. The terms of the loan about the amount of credit, interest rate, duration of the loan, and repayment schedules are agreed upon and included in the document.
For the borrower, a promise is made by the lender to loan him a certain sum of money for a specified period. For the lender, the borrower agrees to repay that sum at the end of the period. The contract protects their interest in the event of any violation or default.
In cases where the loan is taken from a friend, and there is no agreement in place, there can be tax implications on both parties as the amount may be considered as a gift instead of a loan by the tax laws. These would incite some hefty tax charges that can be avoided by an agreement indicating that the amount is repayable.
Lastly, the agreement provides measures for conflict resolutions, penalties, cancellations, etc. in the case of defaults. It also serves as a legally binding document in case of any disputes.
There are many risks of not having this agreement in place at the time of giving or receiving a personal loan.
Contents of the Personal Loan Agreement
A personal loan agreement sample may be used as a reference for drafting such contracts. The following points should be considered while drafting personal loan agreement template.
- Personal details of the participants to the agreement.
- Purpose or requirement of the loan.
- The principal amount being lent.
- Conditions attached to the lending of the sum. These can include the submission of certain documents by the borrower, his credit rating, etc.
- Interest rate and compounding. It can be given on simple or compound interest. The frequency of compounding must also be mentioned. The payment terms for the interest can be different from the principal amount.
- The duration of the loan and the date of repayment.
- Repayment schedules in case payments need to be made in installments.
- Details of any additional loan processing or other legal charges.
- Particulars of any guarantees given to secure the loan.
- Conditions that amount to a default in the payment of the loan.
- Remedies for any defaults in payment. These include the levy of late fees, additional interest, etc. as a penalty.
- Prepayment clause in case the borrower wants to repay the loan early. This may include early payment charges to compensate the lender for the loss of interest.
- Rights of the lender in case of insolvency of the borrower.
- Inclusions of the parties’ legal heirs in the event of deaths.
- Conditions for redrawing these loans with the same agreement.
- Procedures for making any modifications to any of the terms in the agreement. This is important as it enables minor changes from time to time and avoids rigidity.
- Conflict resolution clauses and the jurisdiction and governing laws of the agreement.
How to Write a Personal Loan Agreement? – Points to Consider While Preparing the Agreement
When writing a personal loan contract, you need to keep the following in mind:
- No clause should be left ambiguous. All names and details should be mentioned leaving no room for errors. It must also be clear and concise to avoid any misunderstandings and disagreements.
- Ensure that both concerned parties’ requirements are met and that the agreement protects their interests.
- The conditions amounting to a default must be carefully laid out. All the possible terms must be stated. This can include but is not limited to non-payment of the loan on time, other conditions of the agreement not met, insolvency of the borrower, and false information provided by either party.
- The dispute resolution measures must be as conclusive as possible to avoid any litigations.
As is the case in most agreements, the parties have varying priorities, and a middle ground must be reached in the negotiations. The borrower will want a low-interest rate to be able to afford the loan as well as to stay financially stable after the repayment, whereas the lender will want it to be as high as possible to get returns from the transaction and to cover the risks involved. The duration of the loan must also be reasonable, as it should give the borrower sufficient time to repay it.
The agreement must cater to the needs of both parties.
Benefits & Drawbacks of a Personal Loan Agreement
The personal loan agreement is an important document for the borrower and the lender. Its benefits can be seen under various headings above and are listed below:
- All the important terms are disclosed in one place, and no information is ambiguous.
- It is a legally binding document to prove the existence of the loan. It holds the parties liable for any misconduct about the terms of the agreement.
- It protects the participants in the event of any breach of contract.
- It provides for resolution measures in case of disputes regarding the defaults of the loan.
- It prevents arguments over the terms and conditions, especially in cases where the loan is taken from a friend or family member.
Despite its benefits, the agreement has a couple of drawbacks. These are listed below:
- Entering into a contract makes the terms of the loan less flexible as opposed to verbal agreements.
- Negotiation for the agreement can be complicated and time-consuming since the agreement requires close attention to detail.
However, we can say that overall, the benefits of entering into a personal loan agreement outweigh its drawbacks.
What Happens in Case of Violation?
The implications of a violation of contract in the case of loan agreements can extend to the following:
- Late fees and other charges may be levied on the principal amount and accrued interest as a penalty.
- In case of any litigations, the aggrieved party becomes eligible to claim any attorney charges and out of pocket expenses in addition to the amount in dispute.
- Most importantly, in case of delayed payments or non-payment of the loan by the borrower, his credit rating can be drastically impacted, which will hurt his likelihood of getting other loans in the future(1).
The personal loan agreement is an important document for any borrower or lender as it provides written proof of the existence and the terms of the loan. It provides clarity and helps eliminate any misunderstandings between the parties. It also provides the record for interest and principal repayments to be made with the repayment installment schedule and also includes how to calculate the interest. The agreement provides necessary information for tax filings and accounting.
The agreement is not mandatory to have, but irrespective of the nature of the loan, its duration, or the relationship between the parties involved, it is always better to execute the agreement to avoid any future conflicts. This also helps avoid arguments and prevents the relation from getting damaged due to borrowed money.