Warning that predatory second tier lenders are circling property sector
Recent tightening of lending criteria in the banking sector has not only dramatically reduced financing options for companies, but has also created a perfect storm for what could be described as “predatory” lending practices by some second-tier credit providers.
This year has seen the big four banks impose stricter lending criteria and companies seeking loans on prime secured assets, second mortgages or unsecured cash flow loans have been forced to turn to private equity style second-tier lenders.
The largely unregulated and agile capital from second tier lenders is attracting borrowers simply as they have no other choice and from the outset borrowers are disadvantaged.
This is particularly prevalent in commercial property transactions and development funding. Lenders can see in profitable deals there is available uplift and margin, making the value proposition of post transaction litigation a retrospective unappealing action where money has been made by the borrower.
Second-tier lenders leverage the fact that funds can be advanced quickly with decision-makers assessing deals much more promptly than the big banks can. However, access to funds in the second-tier market can come with significant financial costs.
Corporate borrowers can often be burdened by unexpected and significant fees when they discharge their obligations. The fine print in loan documentation can stipulate higher interest rates than what has been used in marketing materials. If there is a breach of the terms, the higher rate will apply and the discounted rate evaporates.
Another “predator” technique is reliance on strict notice provisions to discharge loans. There are cases when notice is provided, but has not taken the form required under the terms, such as an email instead of a fax. Lenders will reject that effective notice has been given and continue the loan for an additional
period, or apply default interest based on defective notice if the loan extends beyond the original term.
The biggest sting comes when borrowers seek to discharge a loan and settle the arrangement, as in the depths of the paperwork there is usually a “term fee” or “capital repayment fee“. On settlement on the loan, lenders claim a percentage of capital and this is typically an unexpected cost and a significant burden for the borrower.
Lenders cite risk as the reason for these fees, state that the terms and conditions have disclosed all fees and also rely on a Lawyer’s Certificate to confirm that the terms have been explained to the borrower.
Furthermore, if a lender considers that the borrower is a future litigation risk, they will demand a Deed of Release be signed to absolve the lender from any claims as a condition of settlement. This effectively strips the borrower of future rights and can leave them in a position where loans rack up exorbitant interest at super-charged interest rates in addition to hefty default fees without recourse.
We desperately need to maintain quality lending practices and it is now up to the big four banks to develop funding solutions for corporate Australia and for regulatory bodies to open their eyes and look at ways to rein in second-tier lenders exploiting the market.
Francis Farmakidis is a partner, at Vobis Equity Attorneys.