INTRODUCTION

The success of every business is dependent on the level of funding/capital. Generally, Capital means any financial resources or assets owned by a business or organization that are useful in promoting development and generating income. Capital plays a significant role in the sustainability of a business because it serves as a principal factor in the acquisition of resources.

Money is necessary for personal needs and business ideas to be realized. Therefore, when such needs and ideas arise a person or business can approach a financial institution/bank to borrow[1]. In this article, we shall be focusing on loans from banks as a means of raising capital for a business organization and an individual as well as the legal implication for obtaining bank loans in Nigeria.

Note that other ways of raising loan for a business or personal project include:

Loans from private individuals

Loans from cooperative societies

MEANING OF A BANK LOAN

Banks play important roles in the economic life of a country particularly a developing nation like Nigeria through the provision of banking service. As agents of development, they provide loans and advances including a variety of contingent facilities, which could either be short-term or long-term.

A BANK LOAN is when a bank offers to lend money to consumers for a certain period. As a condition of the bank loan, the borrower will need to pay a certain amount of interest per month or per year[2].

It is a form of credit that is extended for a specified period, usually on fixed-interest terms related to the base rate of interest with the principal being repaid either on a regular installment basis or in full on the appointed redemption date.

TYPES OF BANK LOAN

Depending upon the nature of the loan and the degree of risk involved, a bank loan may be unsecured or secured.

Secured Bank Loan- This is a loan in which uses an asset as collateral. The borrower pledges assets (e.g. property, moveable assets, etc) as collateral(guarantee) for the loan. The assets are always worth more than the amount of the loan and can be claimed by the lender if the borrower does not pay the amount according to agreed terms and conditions.

Secured Loans include:

  • Term Loan- This is a loan granted by banks and other financial institutions for a specific amount and repayment terms, as well as a fixed or fluctuating interest rate.
  • Mortgage Loan- This is a loan granted by banks and other financial institutions for the purchase of real estate (property) usually with a specified interest rate and the repayment period. It is secured by the property itself. Ownership of the property is transferred to the borrower after full payment and meeting other obligations. A default will lead to foreclosure (seizing of the property).

Unsecured Loan- this is a loan given without any asset for collateral. In this case, the borrower does not pledge any asset as collateral(guarantee) for the loan. This type of loan tends to be for smaller amounts and typically attracts higher interest rates because of the perceived risk.

Unsecured Loans include:

  • Credit Card Loan- An electronic card, usually issued by banks and other financial institutions, which allows the holder to spend an amount above his account balance but up to an agreed limit. Regular checks and reconciliations are carried out at intervals to balance the account and claim interests, charges, and principal according to the terms and conditions. This type of bank loan is not applicable in Nigeria.
  • Personal Loan- This is a loan granted to an individual for household or other personal use. Banks and other financial institutions give out these loans based on the borrower’s credit history and ability to repay the loan from personal income. It is also referred to as a customer loan.

Forms of Bank Loans in Nigeria

The two most popular types of bank loans in present-day banking services in Nigeria are loans and overdrafts.  Other forms which may not necessarily take the form of a loan account or an overdraft account include discounting trade bills, negotiating bills on letters of credit as confirming bank or investing in equity stocks and gilt-edged securities.

A loan is usually a sum of money that a natural or legal person borrows from another with the condition that it be repaid overtime or on a later date (sometimes with interest). Other assets such as land, machinery, and buildings can also be given out as loans.

Essentially, a loan arrangement entails:

  1. Principal – The sum of money borrowed.
  2. Interest Rate -It is a percentage of the loan, paid to the lender periodically for the use of money borrowed. It is normally expressed as an annual percentage of the principal. For example, if a lender (such as a bank) charges a customer 20% interest per annum on a loan of ₦1,000,000.00, then the interest to be paid would be ₦1,000,000.00 X 20/100 X 1 year = ₦200,000(per annum).
  • Date of Repayment- The date on which the principal and interest must be returned.

Overdrafts – this is a loan arrangement where a bank allows a current account customer to make withdrawals above the balance in the account up to a certain limit. Typically, these accounts will charge a one-time funds fee and interest on the outstanding balance[3]. With an overdraft account, a bank is covering payments a customer has made that would otherwise be rejected, or in the case of actual checks, would bounce and be returned without payment.  By taking an overdraft a customer may find that bank charges are levied for the operation of the account for the whole of the charging period, possibly three months, and the cost of these charges on top of the overdraft interest may make the borrowing very expensive. Also, many banks have introduced tougher policies towards customers taking unarranged overdrafts, charging interest at far higher rates[4].

REGULATIONS GUIDING BANK LOAN IN NIGERIA

Bank loans in Nigeria are provided by deposit-making institutions regulated by the Central Bank of Nigeria. The dual laws establishing and conferring unfettered regulatory powers on the CBN are the Central Bank of Nigeria Act (CBN Act) 2007 and the Banks and Other Financial Institutions Act (BOFIA) 2020[5], the combined provisions of which allows CBN as the banker’s bank to make regulations (including releasing of guidelines) and do such other things ancillary and necessary to the promotion of good banking services and policies for the benefit of the nation’s economy. The relevant provisions of enabling statutes are:

Section 32 (1) of the CBN Act[6] provides:

 “The Bank may, subject as is expressly provided in this Act generally conduct business as a bank and do all such things as are incidental to or consequential upon the exercise of its power or the discharge of its duties under this Act.”

 Section 33 (1) (a) & (b) of the CBN Act [7]provides:

“(1) In addition to any of its powers under this Act, the Bank may – 

  • require persons and institutions having access thereto at all reasonable times, to supply, in such forms as the Bank may from time to time direct, information relating to or touching or concerning matters affecting the economy of Nigeria; and
  • issue guidelines to any person and any institutions under its supervision.”

A cursory look at the above provisions shows the powers of the CBN to issue guidelines. In the exercise of its powers, one of such guidelines is the CBN Consumer Protection Framework Guidelines on Disclosure and Transparency 2019. The objective of the Guidelines is to protect consumers against the provision of inadequate, misleading, or failure to disclose material and relevant information and generally guard against lack of transparency by financial institutions in their dealings with customers.

In its agenda to improve access to credit to Nigerian individuals and businesses, The CBN has also unfolded measures to increase lending to consumer, mortgage, micro, and SME sectors. One of these measures is the increase in the Loan-to-Deposit ratio from 60% to 65%, which has led banks to give out more loans to comply with CBN’s directive. The bank disclosed this in its guidelines to Microfinance banks, Deposit Money Banks, Mortgage finance companies, and Development Finance Companies. On the lending limits to the microfinance banks, it said, “The maximum loan to any individual borrower shall not exceed one percent while a loan to a group of borrowers, a cooperative or a corporate body shall not exceed five percent of the Micro Finance Banks’s shareholders’ fund unimpaired by losses or as may be prescribed by the CBN[8].”

HIGHLIGHTS OF LENDING RATES OF BANKS IN NIGERIA

On the 20th Day of December 2019, the CBN issued The Guide to Banks, Other Financial Institutions and Non-Bank Financial Institutions 2020 providing a basis for the application of charges on various products offered by the Financial Institutions in Nigeria to their customers. The Guide which took effect from January 1, 2020 replaced the Guide to Banks, Other Financial Institutions and Non-Bank Financial Institutions 2007. The aim of this guide is to enhance flexibility, transparency, and competition in the Nigerian banking industry.

Below are the highlights of the Guide.

  • For Local currency loans, the interest rate is negotiable and when the bank intends to introduce a new rate different from the agreed rate, the bank is to notify its customers of the new rate at least 10 business days in advance of the application of the new rate.
  • For Mortgage Financing, interest rate is negotiable which means that the bank and the customer are to mutually agree on the applicable charge.
  • The interest rate on authorised overdraft is negotiable and must reflect the risk-based pricing model. Also, when the bank intends to introduce a new rate different from the agreed rate, the bank is to notify its customers of the new rate at least 10 business days in advance of the application of the new rate.
  • Penal rate: this is payment made in respect of past due and advances- for Naira loan and advances: rate is maximum of 1% flat per month on unpaid amount in addition to charging current rate of interest on outstanding debt. Seven (7) days grace shall be allowed before a penal charge shall be applied on the account.
  • Management fees which is chargeable for all fresh requests and renewal of expired facilities, the rate is negotiable subject to maximum of 1% of the principal amount disbursed which is usually a one-off charge.
  • Facility fee which applies when an additional amount is granted to a customer. Where this fee applies, management fee shall not apply, and the rate is negotiable subject to maximum of 1% of the additional amount disbursed which is usually a one-off charge.
  • Restructuring fee, rate is negotiable subject to maximum of 0.5% of the outstanding amount being restructured which is usually a one-off charge. Management fee is also not applicable here.

The guide also provided for a penalty of ₦2,000,000 where a bank is found to have wrongfully impose a particular charge on each customer. Failure to comply with CBN’s directive attracts a further penalty of ₦2,000,000 daily until the directive is complied with or as may be determined by the CBN.

LEGAL IMPLICATION OF OBTAINING BANK LOAN

As individuals and business organizations obtain loans from the bank, it is important to know the obligations vested in such individuals or business organizations and the bank. Regardless of the form, a bank lending takes, a debt is invariably created between the bank and the customer. A legal relationship, therefore, exists between both parties: the bank becomes the creditor and the customer the debtor. The general legal relationship of bank and customer is contractual which requires the borrower to execute documents (loan agreement) and sometimes offer security to the bank before utilizing the credit facility. Consequently, the parties are bound by the terms and conditions of the documents.

The obligations of the bank include:

  • To ensure that offers letters are written in clear, legible, and simple English, stating the name, contact details of the financial institution and the consumer.
  • To conspicuously display in their banking halls and publish on their websites and internal banking platforms, accurate and up to date information on all their products with regards to prime and maximum lending rates[9].
  • To comply with the rates, charges, fees, or prices published or disclosed at their engagement points[10].
  • To notify the customer on the due date of the loan repayment, within 3 days, through the agreed medium that a default charge would be applied on the account after 7 days from the date the obligation becomes due”[11].

Failure to comply with the provisions of the guidelines attracts regulatory sanctions provided for by the CBN Act, the BOFIA, other laws, and regulations.[12]

The obligations of a borrower include:

  • to repay the principal sum as and when due: The period of payment will however depend on the terms of the agreement between the bank and the borrower. Generally, either the full amount is due on a particular date, or the amount is payable in installments over time.
  • To pay the interest on the principal sum: The borrower is to pay interest on the principal loan amount. If so, the loan agreement will set out dates on which interest is payable and how interest is calculated. Generally, the more risky the loan, the higher the interest rate. Additionally, default interest may be payable if the borrower fails to pay an amount on its due date.
  • To provide a Guarantee or Security: A borrower may obtain a secured loan and provide a third-party guarantee or some form of security for the loan. This is often the case, particularly if the borrower has a bad credit history or if the loan amount is significant. The loan agreement will refer to this requirement and may contain the guarantee’s provisions. The implication of this is that if the borrower fails to pay the loan amount as and when due, the bank has the right to take possession of the secured property, or call on the guarantor provided to pay the principal.
  • To provide Financial Information: The borrower is also to provide ongoing financial information to the bank. If it’s an individual, he/she might have to provide statements of financial affairs. Or if the borrower is a company, it may have to provide its financial statements. This is so that the bank can monitor the financial position and ensure the borrower remains able to repay all amounts due under the loan agreement.

In 2019, the CBN issued a directive to all banks in Nigeria vide a circular titled, Letter to All Banks-New Offer Letter Clause for Credit Facilities[13] dated August 26, 2019, in which the CBN stated terms and conditions that must amongst other things be contained in offer letters and loan agreements before they can be signed by prospective obligors.

These covenants are as follows:

  1. a covenant to repay the loan as and when due
  2. a covenant that in the event of failure to repay the loan and the loan becomes delinquent, the bank shall have the right to report the delinquent loan to the CBN through the Credit Risk Management System or by any other means;
  3. an undertaking authorizing the bank to request the CBN to exercise its regulatory power to direct all banks and other financial to set off the obligor’s indebtedness from any money standing to the obligor’s credit in any bank account and from any other financial assets they may be holding for the obligor’s benefit;
  4. a covenant that the bank shall have the power to set-off the obligor’s indebtedness under the loan agreement from all such monies and funds standing to the obligor’s credit/benefit in any such accounts or from any other financial assets belonging to the obligor in the custody of such bank;
  5. a waiver of all rights of confidentiality arising whether under common law or statute or in any other manner whatsoever;
  6. An undertaking that the obligor shall not argue to the contrary before any court of law, tribunal, administrative authority, or any other body acting in any judicial or quasi-judicial capacity.

The CBN circular further directs that all loan documentation must from the date of the circular contain the Bank Verification Number (BVN) of the obligor for individual loans and Tax Identification Number for corporate loans for ease of identification of other deposits of the individual or corporate borrower as the case may be. Upon default on a credit obligation by a borrower, the bank that originated the credit shall request the CBN to invoke the utilization of the defaulting borrower(s) deposits in other banks in repayment of the obligation.

The loan agreement may contain other covenants. These are promises by the borrower to do or abstain from certain things (such as borrowing more money, disposing of valuable assets, entering into other loan agreements, mortgaging the property). These covenants aim to minimize the risk of the borrower being unable to repay the loan.

In some Agreements, the Bank may withhold, recall or even cancel the loan facility if the Borrower fails to use the loan for the purpose it was granted; diverts repayment installments to other ventures; breaches obligations under the Agreement; fails to repay the agreed installments for a period of time; makes material misrepresentation regarding facts which induced the Bank to grant the loan or the value of the collateral depreciates.

Insurance Provision

The Borrower may be obligated to pay the premium and maintain comprehensive insurance as the Bank may approve in the joint name of both the Bank and the Borrower and the Bank’s interest will be first protected in the insurance policy in case of the occurrence of the insured risk. The Borrower must determine whether its business interest will be protected if it maintains comprehensive insurance in its name and that of the Bank and ensure the Bank’s interest is first protected in the insurance policy[14].

When a borrower fulfills all the requirements of the loan agreement and repays the principal, interest, and all charges on the loan, the borrower is said to be discharged of all liabilities and the loan is considered repaid. For secured loans, all collateral pledged would be released to the borrower. Naturally, such a smooth and peaceful relationship will make the lender want to do business again with that borrower.

CONCLUSION

Bank loans are an important source of financial relief for individuals and companies. The financial system operating in Nigeria is working towards a sound and stable system. However, to build up the trust in people regarding the financial system in Nigeria, CBN continues to enhance the supervision and regulation of financial institutions especially the credits issue by making regulations and directives to encourage lending activities in Nigeria, which means increased access to funds to the SME’s, Retail and Consumer Lending. This in turn translates to the expansion of their operation, creation of jobs, increased Gross Domestic Product, amongst others.

 From the customer’s viewpoint, having a loan with a bank means being in debt, and therefore it is very important that before deciding to take a loan, to think not only how to obtain the loan but how to return it.

It is therefore recommended that individuals and companies seek the services of a lawyer who would interpret terms and conditions in the loan agreement. This will in turn assist them in choosing loan offers that are best suited for their financial capabilities and needs.

For further information and enquiries, please call 08033852360 or send an email to enquiry@harlemsolicitors.com

FOOTNOTES:

[1] https://www.cbn.gov.ng/out/2018/cpd/ accessed on the 12th April 2021

[2] https://www.economicshelp.org/blog/glossary/bank-loans/ accessed on the 15th April 2021

[3] https://www.investopedia.com/terms/o/overdraft.asp accessed 19th April 2021.

[4] https://startcredits.com/loan-overdraft-in-nigeria accessed 19th April 2021

[5] Section 60 (1) of the BOFIA Act 2020

[6] See also Section 42(1) of the Central Bank of Nigeria Act 2007

[7] Section 45 (6) of the Central Bank of Nigeria Act 2007

[8] https://punchng.com/ CBN sets lending limits for banks, others accessed on 15th April 2021.

[9] Paragraph 4.1.3 of the CBN Consumer Protection Framework Guidelines on Disclosure and Transparency 2019: see also Section 22 of the Banks and Other Financial Institutions Act BOFIA, 2020

[10] Paragraph 4.1.10 of the CBN Consumer Protection Framework Guidelines on Disclosure and Transparency 2019

[11] Paragraph 4.5.1 of the CBN Consumer Protection Framework Guidelines on Disclosure and Transparency 2019

[12] Paragraph 6 of the CBN Consumer Protection Framework Guidelines on Disclosure and Transparency 2019

[13] Central Bank of Nigeria, Supervision Circulars & Guidelines, Ref: BSD/DIR/GEN/LAB/12/054 available at https://www.cbn.gov.ng/Documents/bsdcirculars.asp?beginrec=1&endrec=20

[14] https://www.mondaq.com/nigeria/financial services/638082/ protecting-borrowers- under-a-loan-and- collateral-agreement-in- nigeria accessed on 15th April 2021

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