a provision to my participation agreements that required the other party to be trustworthy. All joking aside, that was the right answer, but trust can’t be properly drafted into an agreement. Here, I outline a few key provisions to strengthen the trust factor between a lead and a participant. With lending limits under pressure and with the rising cost of money and other market uncertainties, participations have been an ever-popular tool among lenders (and the factoring industry). They help smaller banks retain clients that require more capital, and they help lenders hedge their bets when deals are riskier on paper. They are also useful in helping private commercial financiers pair up with banks or other non-bank lenders when licensing issues or other regulatory limitations present themselves. Unfortunately, I have observed wide variations in participation agreements and have encountered many that lack some of the critical provisions they should contain. I have seen many participants or leads gloss over certain issues that should be addressed upfront, and which could later become devastating to the parties. Here are some potential traps to be mindful of in these agreements. True Sale A participation must be structured as a true sale. If not, that means the money provided by the participant to the lead could be viewed as a disguised loan. I’ve had to defend true sale in front of many judges, and it is an unfamiliar concept to most of them. If a participation agreement were reclassified as a loan by a court, that would create several problems. It imparts usury limitations and lending/borrowing limits. It also threatens the participant’s ability to have derivative lien rights Participations Trust and Traps LEGAL EAGLE SPOTLIGHT When leading a panel presentation on participation agreements for the International Factoring Association a few years ago, I asked the panelists what they considered the most important element of a participation agreement; they unanimously answered “trust.” I can draft the tightest participation agreement, but ultimately, having the right partner in the deal is what determines its success. (Well, that and whether the borrower pays.) Therefore, I started adding Jason Medley Partner Spencer Fane LLP 12 | The Show-Me Banker Magazine
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