I. INTRODUCTION
Since the enactment of Neb.Rev.Stat. § 45-1,112 thru 45-1,115, many bankers have asked for explanations, clarifications, or general background information regarding the written credit agreement law. This would be expected since the law addresses solutions to complex legal problems.
In order to provide further guidance and explanation to the written credit agreement law, we have set forth the most common questions, with answers, regarding this legislation. We ask that you thoroughly review these questions and answers so that your bank may avail itself of the lender protections offered by this law. In adopting your own bank’s procedures in implementing the law, you would be well-advised to consult your own bank counsel. You may wish to share these Questions and Answers with your legal counsel.
II. QUESTIONS AND ANSWERS
1. Why was there a need to enact written credit agreement laws in the first place?
A number of state and federal courts have been the scene of “lender liability” litigation. One theory underlying many lender liability lawsuits involves an alleged oral promise by a lender to either commit the lending of funds or to modify the terms of a previously existing loan. In reviewing the facts of these lawsuits, it has been found that discussions between a potential customer and a loan officer regarding a possible lending relationship were later alleged by the would-be borrower to form an enforceable oral agreement. Therefore, what a loan officer might have believed to have been a mere discussion about lending options or criteria, could later be alleged as an agreement committing the funds of the bank under particular terms discussed in such conversations. Other cases have revealed that some borrowers, faced with financial difficulties were alleging that their lenders had at one time or another orally agreed to modify certain terms of their loans. These “agreements” to modify existing contracts were often based on oral discussions which were never reduced to writing.
In reaction to lender liability lawsuits which proliferated during the mid to late 1980’s, a majority of states have adopted protections into the law. Most often, the legislation adopted was an extension of the Statute of Frauds principle into the lending relationship. (For example, the Statute of Frauds already applies to offers to purchase real estate - which must be in writing to be enforceable - in order to provide certainty as to the terms and conditions of the offer, protecting the rights of both buyer and seller.)
The written credit agreement law provides greater protection to both lender and borrower in establishing or modifying a lending relationship. It is most often the lender who is protected by the certainties of reducing oral agreements to writing. The Nebraska Legislature agreed with the concept that oral commitments to extend credit or modifications to existing loans should be reduced to writing in order to be enforceable. The intent of the law is to avoid confusion and to provide greater certainty in those cases in which oral commitments or oral modifications could otherwise be alleged.
2. Under the law what does the term “credit agreement” mean and to what activities does the term “credit agreement” apply?
Section 45-1,112 defines the term “credit agreement” to mean:
(a) (i) A contract, promise, undertaking, offer, or commitment to loan money or to grant or extend credit; or
(ii) A contract, promise, undertaking, or offer to forebear repayment of money or to make any other financial accommodation in connection with a loan of money or grant or extension of credit, or any amendment of, cancellation of, waiver of, or substitution for any or all of the terms or provisions of any instrument or document executed in connection with a loan of money or grant or extension of credit, except for loans of money or grants or extensions of credit which are:
(A) Not in excess of twenty-five thousand dollars and used primarily for personal, family, or household purposes of the debtor or debtors; or
(B) Used for the purchase of and secured solely by the principal residence of the debtor or debtors.
(b) Credit agreement shall not include (i) letters of credit or (ii) promissory notes, real estate mortgages, trust deeds, security agreements, financing statements, guarantee agreement, pledge agreements, or other similar documents or instruments evidencing an obligation to repay indebtedness or securing the repayment of indebtedness.
Therefore, the statutory definition of “credit agreement” relates to only two events in the lender-borrower relationship: PRE-LOAN AND POST-LOAN ACTIVITIES. Subdivision (a)(i) contains that part of the “credit agreement” definition which relates to pre-loan activities (i.e., commitments or other promises to lend the funds of the bank). Subdivision (a)(ii) is that part of the “credit agreement” definition that addresses post-loan activities (i.e., modifications to the terms and conditions attached to funds borrowed from the bank). Subparts (a)(ii)(A) and (a)(ii)(B) to subdivision (a)(ii) designate the two types of loans in which post-loan activities are not covered. Finally, subdivision (b) specifically excludes loan and other related documents from the definition of “credit agreement.”
PLEASE NOTE: THE STATUTORY DEFINITION APPLIES EXCLUSIVELY TO THESE PRE-LOAN AND POST-LOAN ACTIVITIES ALONE AND TO NO OTHER ACTIVITIES INVOLVED IN THE LENDER-BORROWER RELATIONSHIP.
3. What are the formal legal requirements of a “credit agreement”?
A “credit agreement” must:
(1) be in writing;
(2) express consideration;
(3) set forth the relevant terms and conditions of the credit agreement; and
(4) be signed by the creditor and the debtor.
Neither a creditor nor a debtor may maintain an action based on an alleged “credit agreement” unless the four above - listed requirements are satisfied.
(See, Section 45-1,113(1)).
4. Do the written credit agreement provisions apply only to state-chartered commercial banks?
Until July 9, 1990, the answer was yes. But effective July 10, 1990 and thereafter, the definition of “financial institution” in the written credit agreement law expanded to mean:
A state-chartered or federally chartered bank, savings bank, building and loan association, credit union, industrial loan and investment, or savings and loan association or a holding company or affiliate or subsidiary of such an institution.
(See, Section 45-1,112(4)).
5. At a minimum, what must the bank do to gain the lender protections afforded by this legislation?
All pre-loan activities (i.e., commitments) are covered by the law. Any commitment to lend must be in writing to be enforceable by the borrower or “would be” borrower. A banker need only be concerned about complying with the “notice” provision contained in the law in order to trigger the protections of the law with regard to post-loan activities. A notice must be provided to the borrower at the time a loan is executed, and signed or initialed by the borrower. If the notice is properly given, any future post-loan activities must then be reduced to writing to be enforceable. If the notice is not provided, oral post-loan modifications could be alleged by the borrower and enforced against the bank. In other words, failure to give notice may require the bank to defend against allegations of oral modifications whether, in reality, agreed to or not.
Once the notice has been provided, any subsequent post-loan modification falls under the law’s definition of “credit agreement” and therefore must be reduced to writing, express consideration, set forth the relevant terms and conditions of the credit agreement, and be signed by both parties.
6. May the bank and its borrowers continue to do business based on oral agreements?
Yes. However, in light of the written credit agreement requirements, the bank must do so with the understanding that neither party may be bound to carry out the terms of oral promises made.
7. What if the bank does not wish to avail itself of the protections of the written credit agreement law?
The answer to this question depends upon whether an oral commitment to loan money or an oral modification to a preexisting loan is involved.
In the case of an oral commitment to lend money:
The law will apply regardless of whether or not the bank makes a loan commitment orally or in writing. The statute is quite clear that an oral contract, promise, undertaking, offer, or commitment to loan money or to grant or extend credit must be in writing to be enforceable. The practical effect of this requirement is obvious. In almost any conceivable case, it would be the borrower alone who would attempt to enforce an oral commitment to lend money. A lender would rarely, if ever, seek to enforce an oral commitment to loan money to a potential customer. In essence, this provision protects a lender from any allegation made by a potential borrower that the bank agreed to lend money when in actuality, only discussions about a possible loan were held.
(See, Section 45-1,112(1)(a)(i)).
In the case of oral modifications to preexisting loans:
If the lender and the borrower agree orally to modify a preexisting loan, and the lender has not availed itself of the written credit agreement protections by providing a written notice signed or initialed by the borrower at the time the original loan was executed, then Nebraska common law regarding oral contracts would apply. Neither party will be afforded the protections of the written credit agreement law as it applies to post-loan activities. This means that a borrower may allege that an oral agreement was entered into between himself/herself and the bank and that such agreement may be entitled to judicial enforcement (i.e., subsequent oral discussions could continue to be alleged to constitute legally binding agreements by the borrower in legal actions, both affirmatively and defensively).
However, if the creditor has availed itself of the written credit agreement protections by providing the appropriate written notice in a timely manner, then oral modifications to a preexisting loan are neither binding nor enforceable.
(See, section 45-1,112(1)(a)(ii) and 45-1,113(2)).
8. Does the written credit agreement Law require that from now on all loans must be preceded or accompanied by a written credit agreement?
No. It is very, very important to distinguish between the term “credit agreement” as defined in this law and the terms “credit agreement,” “loan agreement,” “credit arrangement,” or “loan arrangement” which are used in everyday speech. For the purposes of this law, a “credit agreement” is narrowly defined to include exclusively pre-loan and post-loan activities described in the Answer to Question 2 above. Once again, the definition relates only to these two specified activities and does not relate to the actual lending of money nor to the traditional documents evidencing the loan which are specifically excluded from the definition of the term “credit agreement”.
A “credit agreement” for the purposes of this law means:
A contract, promise, undertaking, offer, or commitment to loan money or to grant or extend credit (i.e., loan commitments) or a contract, promise, undertaking or offer to forbear repayment of money or to make any other financial accommodation in connection with a loan of money or grant or extension of credit or any amendment of cancellation of waiver of or substitution for any or all of the terms or provisions of any instrument or document executed in connection with a loan of money or grant or extension of credit (i.e., modifications to a preexisting loan).
(See, Section 45-1,112(1)(a)(ii)).
By its very definition, for the purposes of this law, the term “credit agreement” does not include:
letters of credit or promissory notes, real estate mortgages, trust deeds, security agreements, financing statements, guarantee agreements, pledge agreements or other similar documents or instruments evidencing an obligation to repay indebtedness or securing the repayment of indebtedness.
(See, Section 45-1,112(1)(b)).
A loan may still be evidenced only by a promissory note. The law does not require a lender to draft additional agreements.
EXAMPLE: Lender and potential borrower discuss terms of a loan for farm operating expenses. At that meeting or on a subsequent date, the borrower executes a promissory note and appropriate security documents. In this case, no written credit agreement exists. The note itself and accompanying security documents are the governing instruments and the law regarding their enforceability applies independently from the written credit agreement law.
In summary, the law specifically states that a commitment to lend money is by definition a “credit agreement.” The law also states that if proper notice is given, any modification to existing loan documents are by definition “credit agreements” and must be in writing for such modifications to be enforceable.
9. Are there any exceptions to the written credit agreement provisions?
Yes. (1) Loans of money or grants or extensions of credit which are in an amount of $25,000 or less and used primarily for personal, family or household purposes of the debtor and (2) loans of money or grants or extensions of credit which are used for the purchase of and secured solely by the principal residence of the debtor are each excluded from both the notice and the loan modification protection provisions of the law.
The law also does not apply to credit extended on a checking account (e.g., overdrafts) or to loans initiated by credit card or other type of transaction card.
(See, Section 45-1,113(2)).
10. Do the exceptions contained in the answer to Question 9, mean that the written credit agreement protections are not available to these types of loans?
In the case of loan commitments, the law applies regardless of its size, purpose, or security to be taken. Again, the law states clearly that ALL commitments to lend money must be in writing to be enforceable.
However, in the case of loan modifications, the law does not extend its lender liability protections to what have been commonly labeled “unsophisticated borrower” situations. Since the law will not apply to the exceptions discussed in the Answer to Question 9 when it comes to loan modifications, providing a notice to the borrower will have no effect in connection with these types of loans.
11. Why is there a notice provision for modifications to loans?
The introducer of the original legislative bill believed that extending a Statute of Frauds provision to modifications of loans was a new concept for doing business in Nebraska and therefore merited advance warning. The intention of the written notice provision, therefore, was to apprise a debtor at the time of executing a loan that future modifications to that loan must be in writing to be enforceable.
12. What is the actual language of the notice?
As of July 10, 1990 the notice language must contain substantially the following language:
A credit agreement must be in writing to be enforceable under Nebraska Law. To protect you and us from any misunderstandings or disappointments, any contract, promise, undertaking, or offer to forebear repayment of money or to make any other financial accommodations in connection with this loan of money or grant or extension of credit, or any amendment of, cancellation of, waiver of, or substitution for any or all of the terms or provisions of any instrument or document executed in connection with this loan of money or grant or extension of credit must be in writing to be effective.
The purpose of the notice language change was to parrot the “credit agreement” definition as it relates to post-loan activities.
13. When and how must the notice be given?
If the bank wishes to avail itself of the lender liability protections contained within this law, the law provides that the creditor, at the time of the initial loan of money or grant or extension of credit, must give the debtor the written notice. It is advisable that the notice be provided at the time that the note is executed. The notice must be signed or initialed by the borrower. We would recommend that a copy of the document containing the notice language be given to the borrower to retain.
14. Must the bank give a separate notice for each note executed by the same borrower or will just one notice per borrower suffice?
The notice must be given for each new note executed. A plain reading of the law indicates that giving notice for one note executed will not extend the protections of the law to other notes entered into by the same borrower.
15. How does the notice apply in cases involving lines of credit?
When the loan involves a line of credit, the notice need only be given when the master note is executed. The written terms of lending on an “account-draw basis” will dictate the manner in which future advances will be made and additional notices are not required for each advance if a notice was given properly when the master note was originally executed. When a master note is accompanied by a separate written agreement which sets forth the terms under which future advances will be made and which may also contain other borrower covenants or obligations, this separate written agreement constitutes a “credit agreement” and it, along with subsequent modifications thereto, must be executed in accordance with the “credit agreement” requirements set forth in the Answer to Question 3 above.
16. May the notice be placed in the note?
Yes. The law does not specify that the notice be a separate document. The notice may be made a part of any loan document (e.g., promissory note) or may be given separately from the loan document. The important thing to remember is that the notice be signed or initialed by and provided to the borrower. Again we recommend a copy of the document containing the notice language be given to the borrower to retain.
17. In the case of a note that is renewed, must another notice be executed?
Yes. If a new note is executed, a notice must also be given. However, if the note is merely modified as to its terms and a notice has previously been executed with the note, then another notice is not necessary. Remember that the modification itself is defined as a “credit agreement” and must satisfy the “credit agreement” requirements (See, Answer to Question 3).
18. What if a modification is made to a loan in which notice has never been given?
The law requires that notice must be given at the time the initial loan of money or grant or extension of credit is made in order for the lender to receive written credit agreement protections. However, since these protections are granted on the basis of having given the borrower advance notice of the written credit agreement requirements, it would be advisable to properly provide subsequent notice to the borrower in cases where the notice was not given at the time of execution of the original loan.
19. Could the recovery of money owed or collateral securing a loan be jeopardized by this legislation?
No. Section 45-1,113(3) specifically states that “the requirement that a credit agreement be in writing to be enforceable shall not be construed to limit or bar the recovery of money owed or collateral securing a loan.”
20. In spite of the written credit agreement law, may other lender liability actions be maintained against the bank?
Yes. The law does not preclude a borrower from maintaining any action against the bank on the basis of fraud, misrepresentation, partial performance, parol evidence, duress, undue influence, and many other legal theories that are not covered by this law.
21. Are there any other protections afforded by this law?
Yes. The law also states that a “credit agreement” shall not be implied from: the relationship, fiduciary, or otherwise, of the creditor and the debtor; the rendering of financial advice by a creditor to a debtor; or consultation by a creditor with a debtor.
(See, Section 45-1,114).