Authors
“Default” and “Event of Default” are two terms that raise concern and confusion in the minds of most lenders and their respective counsels. One main reason is that the road beyond such terms has been traveled far less over the past several years than the one to closing. With that being said, the following discussion is not one of the legal principles applicable to certain remedial actions available to a lender, but one of the analysis of a lender’s post-default procedures. An understanding of this procedure is particularly important for each lender and its lawyer because the foundation for the actions that may or may not be available upon the occurrence of a default or a potential default, as well as when such actions may be taken, are laid, intentionally or otherwise, during the drafting and negotiation of the loan documents.
The term “default” is defined as the omission or failure to perform a legal or contractual duty. Black’s Law Dictionary, 449 (11th ed. 2019). Many jurisdictions have further incorporated this concept into their body of case law. In Texas for example, one court held that a “default” is a failure to perform a legal duty. Easterwood v. Willingham, 47 S.W.2d 393 (Tex. Civ. App. – Dallas, February 13, 1932) no writ history. Such term is left undefined in the Uniform Commercial Code (the “UCC”) however. The UCC provides that the parties to an agreement may decide what constitutes a “default.” In adopting the UCC, the Texas commentators specifically stated in Comment 3 to Section 9.601 of the Texas Business and Commerce Code (O’Connor’s 2018-2019) that the particular circumstances giving rise to a default, as well as whether a default has occurred or has been waived, are each left to the agreement of the parties as supplemented by other applicable law. Based upon the foregoing, a default occurs when one party to a set of loan documents omits or fails to perform a duty to which the parties have contractually agreed. The term “event of default” is used in loan documents generally to refer to a default for which all applicable grace, notice and cure requirements have lapsed. Upon the occurrence of such an event, the lender can begin to exercise remedies. As a result of the deference given the parties by law regarding this concept, lenders and lawyers alike should actively participate in the negotiation, and closely scrutinize the drafting, of specific defaults set forth in the documents evidencing the transaction. Furthermore, lenders should affirmatively decide which acts or omissions constituting a default under the applicable loan documents will necessitate the giving of notice and the opportunity to cure prior to the lender being able to exercise its applicable remedies. Notwithstanding any of the foregoing, however, at the point in which a lender believes an event has occurred which constitutes a default or will, upon the lapse of time, giving of notice or both, constitute an event of default, then, if not by now, such lender should become intimately familiar with the specific provisions applicable to the event in order to determine the contractual effect of such event’s occurrence and whether a notice from lender is or is not required in connection therewith.
The complexity of post-default analysis becomes apparent when considering the range of issues that typically arise. At the threshold, there is the fundamental question of whether an event has occurred that constitutes, or will upon the giving of notice or lapse of time constitute, a default—and, critically, how that occurrence can be documented. Beyond this initial determination, the contractual framework governing notice and cure rights presents its own intricacies. Loan documents frequently impose detailed requirements regarding grace periods, the form and method of notices, and the point at which such notices become effective. These requirements may extend not only to the borrower but also to a wider cast of interested parties, including guarantors, subordinate lenders, permanent lenders, co-lenders and major tenants.
The cure rights landscape adds further layers of complexity. The question of who may cure a default, whether the borrower alone or third parties such as guarantors or subordinate lenders, and the duration of any applicable cure periods can vary significantly from transaction to transaction. Moreover, practitioners will recognize that the expiration of an initial cure period does not always mark the end of the analysis; additional notice requirements or other conditions precedent may intervene before remedies become available.
These considerations illustrate why the post-default phase demands the same rigor and attention to detail that characterizes the negotiation and documentation of the transaction itself. The provisions drafted at closing ultimately define the terrain that lenders and their advisors must navigate when circumstances deteriorate.
See the flow chart below for guidance on interpreting and responding to loan default situations.