promissory notes form

PROMISSORY NOTES Prof. Irene Kosturakis Prof. Cherie O. Taylor South Texas College of Law and Chief Intellectual Property Counsel BMC Software, Inc. 04/02/07 Notes Basics transactions ► Regulated lenders Accelerated relief Suit on promissory note ► Loan Negotiability ► Complexity ► Negotiable Negotiability notes Can be transferred Free of certain defenses Makes a note an article of commerce ► Negotiability may not matter Except for those destined for the secondary market Notes Basics owes? ► How much? ► To whom? ► How and when is the money to be repaid? ► What if it isn’t repaid as agreed? ► Who A Basic Note $100,000.00 Houston, Texas November 30, 2007 Within 12 months after date, Securikey, Inc. promises to pay to the order of BIG COUNTRY BANK the sum of $100,000.00, plus interest at the rate of 15% per annum. Securikey, Inc. By /s/Billie Bobb CEO A Basic Note $100,000.00 Houston, Texas November 30, 2007 Within 12 months after date, Securikey, Inc. promises to pay to the order of BIG COUNTRY BANK the sum of $100,000.00, plus interest at the rate of 15% per annum. Securikey, Inc. By /s/Billie Bobb CEO A Basic Note $100,000.00 Houston, Texas November 30, 2007 Within 12 months after date, Securikey, Inc. promises to pay to the order of BIG COUNTRY BANK the sum of $100,000.00, plus interest at the rate of 15% per annum. Securikey, Inc. By /s/Billie Bobb CEO A Basic Note $100,000.00 Houston, Texas November 30, 2007 Within 12 months after date, Securikey, Inc. promises to pay to the order of BIG COUNTRY BANK the sum of $100,000.00, plus interest at the rate of 15% per annum. Securikey, Inc. By /s/Billie Bobb CEO A Basic Note $100,000.00 Houston, Texas November 30, 2007 Within 12 months after date, Securikey, Inc. promises to pay to the order of BIG COUNTRY BANK the sum of $100,000.00, plus interest at the rate of 15% per annum. Securikey, Inc. By /s/Billie Bobb CEO Who Owes? ► Name of maker of note should be correct ► Multiple debtors agree to be “jointly and severally” liable ► Guarantor Each subordinates to the debt any claim or security it has or may have against other Obligor(s) or their assets Each waives all defenses Signs on a separate form Guarantor’s defenses usually waived ► Obligations to Lender not affected by bankruptcy, insolvency, merger, consolidation, dissolution, or death of any Obligor Obligor Waivers ► ► ► ► ► ► ► Diligence, notice of default, nonpayment, demand for payment, indulgences and notices of any kind, and notice of acceptance of (i) Note, (ii) Loan or (iii) any other security instrument Lender’s delay in exercise of any right/remedy Release, compromise, subordination, substitution, impairment, or failure to perfect any security, or rights or remedies against any Obligor Rights to marshaling, subrogation, reimbursement or indemnity until indebtedness has been fully paid and Borrower’s ability to obtain credit under the Loan has been irrevocably terminated Right to request or obtain from Lender information about other Obligor(s) Any act, omission or thing which might operate as a legal or equitable defense or discharge of any Obligor(s) Any other defense available to a surety/guarantor under law Borrower Consents To renewal, forbearance, extension of time, and other change in the terms or conditions of any indebtedness ► Every waiver of Lender’s rights against any Obligor(s) or any security, without such waiver prohibiting the later exercises of same rights ► Any election of rights or remedies by Lender, including enforcement of the Note, without first pursuing Lender’s rights against any Obligor(s) or any security ► Every Borrower’s Responsibilities keep informed of the financial condition and assets of other Obligor(s) ► To keep informed of all circumstances bearing upon the risk of non-payment of the debt ► To understand the risks each Borrower assumes and incurs ► To understand that Lender has no duty to advise Obligor(s) of risks or circumstances ► To How Much? bears interest on the face amount, the amount being loaned ► If loan is over a line of credit, lenders prefer a single Note, signed up front for the amount of the maximum possible advances to be made ► Note Repaid How and When? ► ► ► ► Simple Notes – entire principal sum, plus interest within the term of the Note In many commercial transactions, e.g., line of credit Notes, lenders obtain a demand Note, i.e., all sums due are payable on the Lender’s demand A Note that recites it is payable on demand and then contains events of default is not really a demand Note Can insert a maturity date on a line of credit Note, even if is a demand Note: “This note is payable ON DEMAND or, if not sooner demanded, then on or before [date]” Repaid How and When? ► Installment payment Notes: “ . . . payable on monthly installments of $__ each on the __ day of every month commencing on [date] and the entire unpaid balance on [maturity date]” ► Avoids clerical errors in calculating the last payment where different from other payments ► Used in balloon Notes Interest ► Simple: “. . . said payments including interest on the Rate: ► Variable principal balance outstanding at the rate of __% per annum” “. . . payable on monthly installments of (i) principal each in the amount of $___ plus (ii) interest at the rate hereinafter specified, commencing on [date], and continuing on the same day of each month until [maturity date], when any remaining unpaid principal balance and accrued interest shall be due and payable” Interest Prime rate = the lowest rate, the rate charged by Lenders to most credit-worthy customers on short-term obligations ► Class actions litigated whether this was really the Lender’s lowest rate ► Prime rates vary from lender to lender ► “Interest shall be computed for each payment at the Lender’s rate described by it from time to time as its prime rate, plus __% per annum, on the balance then outstanding, as such rate shall vary from time to time.” “This is a variable interest rate loan in which the interest rate will fluctuate in accordance with the base rate, which will be the “Prime Rate” published in the Wall Street Journal. . . . Where, at an adjustment date, the base rate is expressed in a range in said publication . . . the spread will be added to the lower rate of the reported range.” External prime rate Lender’s prime rate Interest ► Adjustable rate: Rate fixed for an initial period, then automatically re-fixes, based on some objective market standard, e.g., the five-year U.S. Treasury securities “During the first five (5) years, from the date of this Note, the Borrowing Rate shall be eight percent (8%) per annum. Thereafter, on the five-year anniversary of this Note and on each anniversary thereafter (Rate Adjustment Date), the Borrowing Rate shall be adjusted as follows. On and after each Rate Adjustment Date, the Borrowing Rate shall be adjusted to a rate per annum equal to two and one-half percent (2 ½%) above the Index Rate on the Rate Adjustment Date. At all times, the Borrowing Rate shall be calculated on the basis of a 360-day year and the actual number of days elapsed.” Interest ► “If Lender makes actual demand for payment of Note (Lender being under no obligation to make such demand), or if Lender commences suit to collect this Note or exercises its right to sell any collateral, then interest on the unpaid principal balance hereof shall thereafter accrue at the highest rate of interest permitted by applicable law.” Approaches the usury limit While post-default rates are justified by Lender’s increased risk Lender’s need to apply more internal resources to handling a defaulted loan Default Interest Rate: ► ► ► “. . . shall accrue interest at four percent (4%) in excess of the Borrowing Rate” Better to set the default rate with reference to pre-default rate Interest ► “In addition to the principal and interest payments noted above, Borrower promises to pay to Lender a balance deficiency fee, annually in arrears, to be computed as follows: A. For each calendar month beginning after [date of loan], Lender shall compute (1) the average daily account balances maintained during the month by Borrower with the Lender, less (2) the average daily unavailable funds, less (3) reserve requirements, and less (4) __ % of the average daily balance due under this Note during the month, said balance being the “average daily investable fund,” or “ADIF”. If the ADIF is a positive number, the Lender will compute a tentative credit to Borrower equal to interest on the ADIF for one month at the then prevailing rate for U.S. Treasury bills. If the ADIF is a negative number, Lender will compute a tentative charge to Borrower equal to interest on the ADIF for one month at the interest rate then applicable to this Note. Compensating balance requirement = an undertaking by Borrower that a portion of the funds loaned will be kept on deposit with the Lender in a non-interest-bearing account Interest The tentative charge or credit, less amounts necessary to cover account services, shall be the “balance deficiency” (if a negative number), or the “balance excess” (if a positive number). C. The Lender shall notify Borrower monthly of the balance deficiency or balance excess being carried forward to the following month, until the end of the loan year, when the Lender shall notify Borrower of the net balance deficiency or balance excess for the year in question. If there exists a balance deficiency for that year, Borrower shall pay Lender the balance deficiency on the last day of the loan year. D. A “loan year” shall consist of the twelve (12)-month period commencing on ____ of each year and terminating on ___ of the following year; provided, however, that if this Note is paid in full other than at the end of a loan year, the final loan year shall terminate on the last day of the month immediately previous to the month in which the loan is paid.” B. Usury Usury = a maximum rate applicable to commercial transactions or to loans to individuals even though for a commercial purpose. ► A violation in some States ► The existence of an individual guarantor might bring a loan under the usury statute even if the primary obligor is a corporation. ► In such jurisdictions, must add an “oops clause” to the interest provision: ► “. . . provided, however, that in no event shall the amount of interest paid hereunder, together with all amounts reserved, charged, or taken by Lender as compensation for fees, services, or expenses incidental to the making, negotiation, or collection of the loan evidenced hereby exceed the maximum rate of interest on the unpaid principal balance hereof allowable by applicable law. If any sum is collected in excess of the applicable maximum rate, the excess collected shall be applied to reduce the principal debt.” Drafted to conform to the “Statute of Anne” usury model and may require modification in some States. ► Prepayment ► ► ► ► “Borrower shall have the right to prepay all or any part of the principal, without penalty, all such prepayments to be applied upon installments of most remote maturity.” In many jurisdictions, there is no right to prepay an installment obligation unless that right is specifically granted by the Lender. In some states, there is a common law right to prepay if the prepayment is accompanied by all of the interest that would have been paid had the loan been carried to maturity Counsel for Borrower must request prepayment provision without penalty Counsel for Lender must request that double payment in one month does not satisfy the payment for the next month Prepayment ► “Borrower may prepay all or part of the principal, subject to payment of the following prepayment penalty: three percent (3%) of the amount of the prepayment if the prepayment is made within one (1) year from the date hereof; two percent (2%) of the amount of the prepayment if the prepayment is made within two (2) years from the date hereof; and one percent (1%) of the amount of the prepayment if the prepayment is made within three (3) years from the date hereof.” ► Lender will want to impose a requirement that prepayments be in a certain minimum amount, or multiples of a certain sum, or impose a decreasing prepayment penalty during the early years of the loan. Courts do not like prepayment penalties ► Collection Most challenges have focused on what is a prepayment: by liquidation or by obtaining the collateral? ► If lender receives payment for insurance or condemnation proceeds? Prepayment ► Prepayment definition “Prepayment includes any payment or other reduction of the balance due under this Note, regardless of whether such payment or other reduction: (a) is voluntary or involuntary; (b) is occasioned by Lender’s acceleration of this Note or demand hereunder; (c) is made by Borrower or by a third party; (d) results from Lender’s receipt or collection of proceeds and condemnation awards; (e) results from Lender’s exercise of its right of setoff; and/or (f) is made during a bankruptcy, reorganization or other proceeding, or is made pursuant to any plan of reorganization or liquidation.” Prepayment ► ► ► Penalty should not appear to be liquidated damages. Penalty should be calculated on a yield equivalent formula tied to the Lender’s cost of funds, rather than just a fixed percentage amount of prepayment. See Form 9.3, § 5 A good practice is to spell out the reasons for the penalty “Borrower acknowledges that the Borrowing Rate is a favorable fixed interest rate, available only because Lender has incurred, or may incur, one or more liabilities or commitments to fund the loan evidenced by this Note, and that any prepayment is likely to cause loss to the Lender as the direct result of such liabilities or commitments.” Default clause states if one payment is missed, or some other event transpires, then all subsequent payments can be declared due by the holder of the Note at its option. ► Triggered by: ► Acceleration Failure to pay Uncured default in performance of any other obligation to Lender Insolvency A general assignment for the benefit of creditors Filing of any petition under bankruptcy or reorganization Borrower’s suspension of its business Making of false representation or warranty by Borrower about loans by Lender Finally ► Waiver of certain rights a maker make have is generally effective. Presentment, demand for payment, notice of dishonor, other notices Waivers or modifications consented to by Lender in re the time of payment Suretyship defenses ► Agreement to pay all costs of collection, including attorneys’ fees