All Moms Are Remarkable – May 2022 | Issue 174 – It’s okay to be insignificant | Cadwalader, Wickersham & Taft LLP
In the days leading up to the closing of a credit facility, it is not uncommon for the Administrative Agent to ask each lender a simple question, “Do you need a note?” For many lenders, the answer is yes, but such an answer sometimes seems to be given on instinct and without careful consideration of the potential headaches that arise. An understanding that the rating may need to be changed, must be retained for future feedback to borrowers, and may impose taxes that could change the direction of future responses.
In most cases, the form of the note is an attachment to the credit agreement which has been minimally negotiated and contains a few key elements – a mention of the amount of the loans granted, a reference to the credit, the fact that the note requires payment of principal, interest, and fees, a waiver of demand or presentation of payment (if the lender’s attorney is astute), and a signature of the borrower. A so-called note grid is usually used in a revolving credit facility. Under a grid note, the front of the note specifies a dollar amount that corresponds to the lender’s commitment, but the text of the note provides that the true amount to be paid is the aggregate of all loans actually advanced to the lender. borrower and in progress. The details of the loans granted may be specified in one or more annexes (or grids) attached to the note. To deal with the possibility that a borrower may object to the amount entered on the grid, the credit agreement (and the note) generally provides that failure to make entries on the grid will not increase, decrease or will in no way diminish the amount of the borrower’s applicable obligations under the note.
Besides the advantages of the borrower’s acknowledgment of his obligations, there are other motivations for certifying loans with a note. Section 3213 of the New York Civil Law and Practice Rules (CPLR) provides that a note that is “an instrument of payment of money only” is entitled to summary execution, which is effectively an expedited process. to obtain a judgment from a court. Not all notes are considered instruments of payment of money “only”, although case law indicates that the fact that the note refers to another agreement (most likely the credit agreement) or that the rate of interest must be externally determined (for example, if it accrues at SOFR or the alternative base rate as defined in the credit agreement), does not prevent the note from being an instrument of payment of money only. To see City. Nat’l Bank & Trust Co. of NY v IMF Trading, Inc., 561 NYS2d 578 (App. Div. 1st Dep’t 1990). It is unclear whether an aforementioned grid note could be considered an instrument for the payment of money (there are no reported cases dealing with this situation to date). However, much of academia supports a conclusion that presentation of external evidence to prove the amount of interest should not disqualify a note from Section 3213 treatment and external evidence should be permitted to prove the amount of principal owed. by a borrower.
This is another historical reason to get grades. These include the ability to pledge notes to a Federal Reserve bank at its discount window in accordance with Federal Reserve Board Regulation A. The discount window is an easy way for a bank to obtain short-term, seasonal, or emergency funds, and was traditionally only available if the bank could pledge a physical note to the relevant Federal Reserve Bank. . However, discount window policies were revised in the late 1990s and petty loans are now also eligible to be pledged to the Federal Reserve. As a result, the need to submit a physical note is no longer necessary. It should be clarified that there may nevertheless be a continuing advantage to physical notes under Regulation A. A pledge to the Federal Reserve of a physical note may be perfected by a simple delivery of the note. On the other hand, a pledge of an unrated loan to the Federal Reserve requires the filing of a Uniform Commercial Code financing statement against the pledger. Some lenders like the certainty of physical delivery and therefore insist on getting a physical note.
However, the Federal Reserve’s willingness to discount unrated loans has resulted in a common practice of not requesting a rating or at least requiring a lender to affirmatively request a rating. This is the so-called “note-option” structure in which lenders (at least those who are comfortable without a note) instead rely on the credit agreement itself to prove the obligation of the borrower to repay the loans. However, some banks are constrained by internal policies that require all loans to be evidenced by notes, removing any flexibility to do otherwise.
As noted above, notes often have an amount supplemented by the applicable lender’s covenant. This raises the question of what happens if that lender’s commitment changes over time via amendment, facility reduction, assignment or otherwise. The answer is often the need for a modified note. This can be avoided by not including a specific commitment amount on the front of the note and relying on generic language that the note represents the principal amount of each loan from time to time, plus any interest accrued thereon, granted by the lender to the borrower signing the note under the credit agreement. The effect is the same, but the need for modified ratings based on changes to a lender’s commitment is avoided.
Most credit agreements provide that if covenants are terminated or if the relevant lender no longer performs that role, any note signed for the benefit of that lender must be returned to the borrower. For transactions that have a long duration or are heavily loaded with documentation, there is a high chance that the note will get misplaced and cannot be returned to the affected borrower in a timely manner. In this case, the borrower is within his rights to request an affidavit of lost note. This request results in more time and money to remedy a situation created by a simple note request when the transaction was closed years before.
The effect of requesting a note can also have monetary implications. Notes may, in some jurisdictions, be subject to stamp duties, which are taxes imposed on the instrument itself or its execution. The most egregious example of this is Florida’s documentary stamp tax. A number of devices are used to avoid or minimize these taxes, such as executing the stamps outside the taxing jurisdiction (this is frequently done in the case of the Florida Documentary Stamp Tax by executing documents aboard a boat in international waters or on a quick trip to South Georgia). In cross-border transactions, it is customary to ask a local lawyer to affirm that no stamp duty is due under the credit agreement or the execution of a note.
It is also worth pointing out that the rules regarding the execution of tickets vary widely from one jurisdiction to another in the United States. As such, it is always appropriate to ask a non-US attorney to advise you on any rules of jurisdiction that may not be intuitive. For example, an entity formed or organized under the laws of Jersey is limited to a small number of banknotes which can remain in circulation at all times without breaching regulatory requirements. In situations involving a large syndicate, the entity may not be able to provide a rating to all lenders.
Ultimately, the answer to the first question posed above has consequences that may not become apparent until much later. While unlikely in a real subscription service context, the answer could also have monetary implications. Internal lender policy may necessitate the need to have a note in that lender’s records, but when given a non-forced response, perhaps relying on the credit agreement is a better option with less future headaches.