As a document that ensures the repayment of funds extended to a borrower, an accommodation paper can make the process of obtaining loans and other forms of financial support much easier, even if the borrower is experiencing temporary financial problems. Here are some basic facts about accommodation papers, including a few examples of how they can make a big difference to both the lender and the borrower.
Functioning as a negotiable instrument that can be used to secure financing, the accommodation paper allows a third party to ensure a lender that the resources extended to the borrower will be repaid. This third party is often referred to as the accommodation party. Essentially, the accommodation party is committing to repaying the loan if the borrower defaults on the payments for any reason. In some cases, the accommodation paper may outline an escalation list of procedures that will be followed before the lender contacts the accommodation party with a demand for payment. In other scenarios, the lender agrees to provide the accommodation party of periodic reports on the progress of the loan repayment by the lender.
The concept of the accommodation paper comes into play when a financially troubled entity requires a loan in order to weather through a rough time, or to make changes in the operation that will allow it to become profitable once more. Lenders often may require some sort of guarantee of payment, especially when the company requesting the loan is already in financial trouble. The accommodation paper speaks to that condition, giving the lender what is required to extend the financing. Once the loan is repaid, the accommodation paper becomes null and void. Should the borrower approach the lender for another loan, a new accommodation paper may be required before the loan would be financed.
In addition to giving the lender a guarantee of repayment, an accommodation paper also gives the company a chance to secure a better rate of interest for the loan. Rather than relying solely on the credit rating of the borrower, a lending institution will also consider the financial standing of the accommodating party. Lower rates of interest make it possible for the borrower to repay the loan more quickly, and thus begin the process of improving the company credit rating.
An accommodation paper can also be used for private loans as well. For instance, a family member may choose to draft an accommodation paper in order to assist a relative to secure a home or car loan, or even a loan to start a small business. When there is not a strong or long history of financial responsibility, the guarantee from a third party is a great way to help a loved one who is just starting out in life, or is trying to make a new start.
