Let’s say you arrive at your desk one bright and sunny morning and find that your counterpart at a competing bank has left you a voicemail, proudly telling you she’s just made a loan to the nation’s top manufacturer of buggy whips, fully secured by advanced, state-of-the-art buggy whip manufacturing tools and an expansive and varied inventory of the best buggy whips made anywhere. "Would your bank like a piece of it?" she asks. Sounds great! You call her right back and exclaim: “We’re in!” And then the other banker asks, “Do you want participation or assignment?”
What the difference between participating in a loan, and getting or giving an assignment? The distinction is simple, but important. Generally, an assignment is the actual sale of the loan, in whole or in part. The assignee is now the owner of the loan (or the part assigned) and is considered the lender under the loan agreement. A participation, on the other hand, means that the original lender maintains ownership over the loan and the participant has only a contract right against the leading participant, not a credit relationship with the borrower.
Lots of things will determine whether you will want an assignment or a participation, including the percentage size of the loan you’re taking, your relationship and track record with the other bank, and the amount of confidence you have in the other bank’s lending acumen and the competence of their underwriting staff. However, you should also remember that generally a mere participant cannot enforce the loan or proceed against the collateral. Usually, the borrower will not even know that the loan participant exists, and the seller of the participation will reserve the right to enforce, settle, compromise, work out or amend the loan, ordinarily without the participant’s consent, or even without the participants’ knowledge. The participant will, however, have the right to pay the legal team the participation seller hires and directs to enforce the loan. Not a very tempting alternative, is it?
There can always be issues peculiar to a given loan, but if you have a choice, it’s usually better to take an assignment rather than a participation.
This post was written by attorney Rick L. Knuth