Chapter 9 - § 9.2 • CONSTRUCTION LOAN COMMITMENTS

• Jurisdiction: Colorado

§ 9.2 • CONSTRUCTION LOAN COMMITMENTS

Historically, construction loan commitments between lenders and borrowers were a matter of handshake. A borrower would approach its banker, detail the terms of the proposed project, and obtain approval on the proposed financing after review and consent by the bank's loan committee. In earlier days, when vacancy rates were relatively stable, interest rates changed infrequently, and borrowers and lenders maintained long-term relationships, there was little need to memorialize the loan commitment because very little would happen between the time the loan had been approved and the time the loan agreement was signed. This attitude prevailed through the late 1970s and early 1980s, as the real estate market steadily strengthened, interest rates remained stable, and rental rates headed upward.

Circumstances changed in the mid-1980s. During that time, the real estate market experienced wide swings as vacancy rates soared, interest rates increased, and borrowers shopped their loans to many lenders in an attempt to obtain favorable financing. As market uncertainty increased and the relationship between potential borrowers and lenders became less personal, the conditions on lenders' obligations to fund construction loans became more comprehensive. Notwithstanding this increased complexity, many lenders, relying upon old habits, did not place these additional funding requirements in a comprehensive written loan commitment letter, often to their detriment.

In the 1980s, construction lenders in Colorado increasingly found themselves in a position where their borrowers became more adamant in their demands that lenders be required to fund loans based upon oral or vaguely written loan commitments, even though the lender, in good faith, believed that the borrower had not fulfilled the terms and conditions of the lender's funding requirements. Without a comprehensive, written loan commitment letter, disputes developed between lenders and borrowers as to whether the borrower had indeed fulfilled the lender's preconditions to making and funding the construction loan.

To stem this rising tide of litigation, the Colorado legislature enacted a statute in 1989 barring enforcement of any credit agreements made by a financial institution in excess of $25,000 unless the agreement is in writing and signed by the party against whom enforcement is sought.¹ "Credit agreement" is defined very broadly in the statute, and includes any contracts, promises, undertakings, offers, or commitments to lend, borrow, repay, or forebear repayment of money, or to otherwise extend or receive credit.² Additionally, the definition of "credit agreement" includes any representations or warranties made in connection with the negotiation, execution, administration, or performance of any of the previously mentioned forms of agreement.³ The statute "applies to any agreement to extend credit, regardless of the context in which the agreement was formed."⁴ However, the statute "does not preclude relevant extrinsic evidence offered to resolve the intended meaning of a facially ambiguous credit agreement."⁵

Moreover, in addition to barring contract actions alleging breach of oral loan commitments and promissory estoppel claims, this statute also bars all tort claims arising out of oral credit agreements, including those pertaining to construction loans.⁶ In Schoen v. Morris,⁷ for example, the plaintiff brought numerous claims against a bank, including fraud, intentional interference with contractual obligations, outrageous conduct, and prima facie tort. The Colorado Supreme Court, noting that previous cases interpreting the Credit Agreement Statute of Frauds had adopted broad definitions of the term "credit agreement," concluded that the plaintiff's claims were barred. The court further noted that "the plain language of the credit agreement statute of frauds does not limit its application to claims between parties with a direct borrower-lender relationship."⁸ Ultimately, the court concluded that the plaintiff's claims, "arising from oral representations made by the Bank, another lender, concerning its extension of credit to a common borrower, were properly barred by the credit agreement statute of frauds."⁹

Although this Credit Agreement Statute of Frauds was primarily designed to limit lender liability for alleged oral credit agreements, it has additionally set an industry standard that all loans of any substance must first be documented by a written loan commitment executed by both the lender and the borrower.¹⁰ This written commitment protects both parties. The lender is able to clearly define the objective requirements that the borrower must fulfill as a precondition to the closing of the loan, and the borrower is granted the ability to enforce terms of a written loan commitment. Note that, while the Credit Agreement Statute of Frauds creates certain preconditions to the enforceability of credit agreements, the statute only mandates that the agreement be in writing and executed by the party to be charged. There is no statutory requirement prescribing the contents of the written agreement, and no statutory penalty is mandated if the written credit agreement fails to contain any specific factual information.

The following outline of loan commitment terms may be more comprehensive than included in most construction loans, but it serves as a good checkpoint for attorneys drafting or reviewing commitment letters under Colorado law.

§ 9.2.1-Parties to Construction Loan Commitment

Both the borrower and the lender must be fully and completely identified in the loan commitment. To the extent the lender will convey or participate some or all of the loan (either to affiliated or non-affiliated...