Things To Consider About Having A Special Loan Status

In Canada, banks call business loans that are not meeting their required financial covenants as “special loans”.  I’m not sure what they’re called in other parts of the world, but the implications are the same.

When a loan falls into the special loan category, the bank must now decide what their course of action is with the account.  In 2009, word has it that there are large numbers of special loans on the books due largely to the impacts of the current recession.  And unlike past recessions, the banks appear to be a bit more patient with borrowers or at least they have been to this point.

In the past, when borrowers would fall out of covenant, the special loan officers jobs were to help get the loan back on side, or figure out an exit strategy for the bank to get their money back.  In most cases, the latter tended to occur both frequently and quickly.  This time around, the banks have been going to greater lengths to work with clients, especially those that are marginally offside with their requirements.

And perhaps this has been a good strategy to maintain bank revenues.  With recessionary forces in affect basically all of 2009, lending is way down with much of the decline directly attributable to lenders being more cautious with new lending approvals.  So working with special loan accounts, at higher interest rates due to the higher inherent risk, has created a new source of earnings.  So you get a double win… fewer loan right downs and higher net average earnings (in theory anyway).

But is this likely to continue in 2010.

Its hard to say.

As recessionary forces subside, new lending will be more prevalent, perhaps creating the opportunity for lenders to return to past practices of getting their money out of special loans as fast as possible.

But if there is any type of government support available to lenders to offset the higher risk they’re carrying in their portfolio, then perhaps this “working with the client” strategy will continue.

Regardless of what does transpire, one should always be concerned with carrying the special loan (or its equivalent) tag.  Lender policies can change quickly and just because they have been working with  you in 2009, there is no guarantee that this goodwill at higher rates will continue into next year.

For any business owner classified with a special loan status, they would be well advised to thoroughly assess their refinancing options with other sources of capital and repeat the exercise every quarter to make sure they are on top of what plan B and C may look like if the banks choose to go in another direction.

Things can change quickly and refinancing a business can be very time consuming, so its best to spent time not only trying to get the lending covenants back in line but also to build out a contingency plan to keep the business  a float in the event of a change in lender strategy.