Intercreditor Agreement: Overview, Definition, Uses and Example

Intercreditor Agreement

A contract outlining the rights and responsibilities of lenders, or classes of lenders, about the borrower and its assets It may contain clauses that outline who has the authority to declare defaults, foreclose on assets, offer waivers, and alter loan and security arrangements.

This contract may also outline the distribution of borrower payments among the lenders. We shall go into further detail regarding the inter-creditor agreement, including its definition, applications, and instances. Continue reading!

An Intercreditor Agreement: What Is It?

Within the same capital structure, an inter-creditor agreement (ICA) is a legally binding contract that binds different lenders. Lenders must reach a consensus on important matters such as collateral, payment, lien subordination, debt caps, and what happens if the debtor defaults or files for bankruptcy because a single capital structure sometimes contains multiple creditors.

What does the Intercreditor deed intend to accomplish?

a legal agreement, frequently a deed, that establishes the relative rights and rankings of two or more funders in a financing (typically both loan and equity).

Importance of an Intercreditor Agreement

A crucial component of the right to lien is an intercreditor agreement. The system establishes rights and priorities for creditors in case of default and deteriorating financial situation caused by a borrower.

If all parties use their rights concurrently without such a treaty, conflicts may arise. Creditors’ interests will constantly clash if there aren’t enough assets to cover all liabilities after a credit event. Thus, each creditor’s interests are defined and safeguarded by the intercreditor agreement ahead of any such situation.

Intercreditor Agreement Negotiation

The senior lender typically sets the lien conditions in agreements due to power imbalances. Junior lenders may face a precarious situation if they fail to vigorously negotiate deals during a downturn.

A junior lender might require additional resources and time to obtain permission to complete a claim or agreement, for instance. Senior lenders may use this tactic to annoy junior lenders so they agree to the agreed terms.
Since their loss on default is inherently larger than the senior lender’s in the case of project finance, the junior lender may think about stipulating terms for taking over in the event of a borrower default.

In this case, the junior lender can either pay off the senior lender and exit the arrangement, or it can inject more money to remedy financial defaults with the senior lender. With the latter, the junior lender effectively takes on the responsibilities of the senior lender and extends their project exposure.

When there is a significant imbalance in the dynamic between the lenders—for instance, when the senior lender’s terms are “non-negotiable” or the senior lender’s financing surpasses the junior’s capacity—take-out financing may become difficult.

Important Clauses in a Credit Agreement

Seniority

explains the relative legal hierarchy (i.e., senior to subordinate, etc.) of different debts. In addition to covering interest, fees, charges, and indemnification payments, it also grants one creditor preference over another and may impose limits on the total amount of debt that each can issue.

Payback and Advance

The borrower’s cash flow should be allocated to debt first, with principal and interest payments going to the senior lender. To facilitate repayment, the sequence—sometimes referred to as a waterfall—may include addressing the proceeds of collateral disposal and other recovery initiatives.

For example, it might explain how a borrower’s failure to make payments to junior lenders can result in the suspension of such payments. Accelerated debt payback and other conventional legal remedies are examples of additional protections.

Subordination and Attachments

Describe the transfer of rights between creditors over pledged collateral, such as repayment priority. Certain rights may sometimes be more important than debt seniority.

A junior lender may be granted subordination of a senior creditor’s recovery rights over specific assets or collateral. The senior lender cannot utilize its repayment priority rights until the junior lender’s claim is fulfilled.

Rights to Vote, Default, and Dispute Settlement

Establish the framework for enforcement that governs creditors, including the dispute settlement procedure. It might contain other decision-making authority as well as standstill clauses, which forbid pursuing enforcement action. The ability to restructure the borrower and its financial structure is another illustration of enforcement authority.
There are large variations in the distribution of voting rights. Current US case law indicates that there is still uncertainty over the voting rights provision’s legality.

Information Exchange

describes the disclosure of financial performance and other information through a data room or other means to prevent creditors from acting haphazardly or without access to important, confidential information. Sharing provisions may require creditors to notify one another of any prospective defined events.

Rights of Release and Termination

Specify the conditions under which creditors may be added to or removed from the agreement, such as when a priority obligation is satisfied. Reducing the parties’ respective rights and obligations is another possible purpose for clauses.

Does Someone Write an Intercreditor Agreement?

While coordinating the entire financing process amongst creditors, the lead arranger or agent of the financing transaction is usually in charge of drafting the agreement in collaboration with legal counsel. In simpler deals, the senior lender is typically the lead arranger as well. If there is a tight relationship between the borrower and the lenders or if the financing relationship is complex, the borrower may be involved.

Drafts go around so that each creditor can discuss and approve them individually. The more creditors that are parties to an arrangement, the more complicated this endeavor becomes. The lead arranger’s involvement is crucial because each must adhere to their own policies and procedures, including any vetting by their (separate) legal counsel.

FAQs:

What distinguishes an intercreditor arrangement from a co-lender?

Whereas an inter-creditor agreement between a mezzanine and mortgage lender deals with the lenders’ respective collateral, the A/B Co-Lender Agreement addresses the rights and remedies of a junior lender and a senior lender who are “sharing” the same loan collateral package.

What function does an intercreditor agent serve?

The facility agent, often referred to as the loan agent or intercreditor, serves as a point of contact for the borrower and lenders in the hectic and extremely demanding world of loans.

What distinguishes an intercreditor deed from a subordination deed?

When a borrower defaults, an inter-creditor agreement is a distribution of collateral that determines who is superior—the lenders. When it comes to the subordination agreement, the loans are prioritized. It indicates that a priority is assigned to a debt over other debts.

In summary:

When there are multiple lenders in a capital structure, inter-creditor agreements, or ICAs, are essential legal papers. Indenture and Credit Agreements (ICAs) are crucial in determining lenders’ methods for collecting past-due payments, interest, and cash from collateral liquidations in cases of default or bankruptcy.

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