‘Confession of Judgment’ in a Business Loan? Stop Before You Sign!

By Updated March 20, 2019

Original Link:  https://www.thebalancesmb.com/what-is-a-confession-of-judgment-4580193

A couple in the Tampa Bay area got a loan for $36,762 for their real estate business. Even though they had never missed a payment the lender convinced a court to freeze their bank account and took $52,886.93 from them (far more than they paid, considering they had already made payments). How could this happen?

A ‘confession of judgment’ (also called a cognovit note but not to be confused with a consent judgment) is a document signed by a borrower that waives the right to due process if a debt is unpaid. The term “confession of judgment” means that the signer confesses and accepts the judgment (the decision of the court). This confession of judgment might also be a personal guarantee, in which the borrower pledges personal funds if the loan isn’t repaid.

Confessions of Judgment are Under State Law

‘Confession of judgment’ language is part of a loan agreement, specifically in a promissory note. This language is regulated by states. Not many states (including Florida) allow confession of judgment language, but New York, where the Tampa couple’s loan company had its main office, does.

 Some states allow confessions of judgment in limited areas; Pennsylvania, for example, allows confession of judgment clauses in commercial (business transactions). Sometimes the state law allows a period of time (30 days, for example) to allow the debtor to file motions and work out a repayment plan.

This concept isn’t difficult but it’s strange, so let’s look at how this all happens.

  • A company gets a business loan from a lender. The company signs documents with the confession of judgment language during the loan approval process.
  • At some point maybe the borrower pays a day late (but not always). The lender goes to a court (in New York, in this case) and gets someone (maybe just a court clerk) to agree that the borrower is in default on the loan. That is, the borrower didn’t comply with the terms requiring how the money is to be paid back.
  • So the confession of judgment language is acted upon by the court, and the lender takes the judgment order to force a bank to freeze the debtor’s funds and give these funds to the lender.
  • No, the lender doesn’t have to notify the borrower that their money is going to be taken.

A story in Bloomberg Business says of this practice:

…these lenders have co-opted New York’s court system and turned it into a high-speed debt-collection machine. Government officials enable the whole scheme. 

The Bloomberg story reports that “In one month, a single clerk’s office in Orange County, New York, issued 176 judgments against small businesses in 38 states and Puerto Rico.”

What Does a Confession of Judgment Language Look Like?

Here’s a brief example of the language in a promissory note that includes a confession of judgment, from an American Bar Association document (WORD form). At the top of the form, this language appears:


Further down in the document there is language allowing the debtor to authorize an attorney “to confess judgment against the Debtors in favor of the Surety (basically, the lender) for the full amount of the ..Loan…without stay of execution or right of appeal, and expressly waiving …relief from the … immediate enforcement of a judgment….”

How Can the Business Get Its Money Back?

It can be almost impossible. In the case of the couple in Tampa, they lost their business and had to declare bankruptcy because all their cash had been taken. To fight this injustice, the debtor needs an attorney, and how do you pay this person when you don’t have any money? Since the whole process was legal, and the lender can prove that the debtor signed, there’s little that can be done.

What Can Be Done Before Signing

Since the financial recession in 2008, some lenders require confession of judgment language in business loans to prevent debtors from walking away from the business and the loan. Some suggestions:

  • Ask about the lender. Check them out. These lenders often offer great rates that banks can’t match but they are more likely to require confession of judgment language.
  • Find out where the lender’s headquarters are (what state) and what their laws are regarding confessions of judgment.
  • If the lender won’t remove the clause, ask what other guarantees you can give. If there’s no opportunity for compromise, you might want to walk away from the loan.
  • Get an attorney to review the documents before you sign. It’s better (and cheaper) to pay an attorney before the fact than to pay to try to get your money back.

Margins vs Interest Rate; Some Companies are Missing the Real Story

“Interest rates are rising and cutting into the margins of small businesses.” This is a common gripe amongst business owners.

The WSJ Prime Rate is 5.00% – a historically low number notwithstanding several Fed interest rate hikes. For historical perspective, in 2001 the Prime Rate was 9.00%¹ .

So, are interest rates cutting into margins?

The verdict: Slightly; but not enough to matter.

The impact that interest expense has on margins is often overestimated. Let’s look at an example of a business billing $100 per month; with a revolving line of credit of $100; paying 6% annual interest on the line; and generating a 6% margin.

After interest expense, the business makes $5.50/month – $6 of margin less $0.50 in interest expense.

Over the course of the year, the company will pay $6 of interest ($0.50 per month for 12 months) but will make $72 of margin ($6 per month for 12 months), thus the company will pocket $66. Regrettably, some business owners figure that if they have 6% margins, and pay 6% interest, the interest eats up their entire margin. Clearly not the case.

Even if the company had a non-bank expensive FinTech lender (Guido the loan shark) at 18% annual interest rate their margin would be the same $72 annually with Guido’s cut being $18, thereby pocketing $54.

So what is squeezing the business? Other factors, like fringe rate increases, have a much larger impact

In the above scenario, interest rates are only .50% of each invoice. If fringe is 10% of each invoice, the impact of a 10% increase in fringe costs would have 200 times the impact of a 10% increase in the WSJ Prime rate to 5.50%.

Margins are getting squeezed but the culprit is not rising interest rates but rising fringe costs driven mainly by health care costs. While interest does matter – it is not hurting the bottom line as much as other factors.

Five Lender “Must Haves” When Seeking US Government Contract Financing

Springing up like daffodils in April is a glut of finance companies purporting to be “best-in-class” at financing government contractors.  Most often these companies provide working capital financing to help execute on contracts.  Service providers rarely need term loans unless they are making an acquisition.

Here are five “must haves” for any finance company that stakes claim to “best-in-class.”

1. All-in cost less than standard credit card rate. Some lenders charge well over 20% effective annual interest rate.  Many go even higher – up to 40% in some cases.  Often these companies obscure the true cost.  Take some time to analyze the fees and have your accountant or financial advisor help if necessary.

2. No personal guarantee or validity guarantee. Your customer – the US Government – has perfect credit.  There is simply no reason for you to tie up your personal assets, liquidity, home, etc.

3. No termination fee. As your business grows, you may get offers from other financing sources including commercial banks.  You need to be able to move.  Sadly, many financial companies require hefty termination fees to let you out of a bad deal and into a better one.  Such handcuffs – really just a shakedown – are unfortunate.

4. Specialists in GovCon. You know how unique and specialized government contracting is.  Make sure your financial partner is equally well-versed and experienced in the industry.  As a rule of thumb, make sure that at least 75% of your financing source’s customers are GovCons; that they have provided commitment letters for bid submissions; and that they can increase your facility, without requiring additional underwriting, as you win new contracts.

5. Profitable. Nothing is worse than having your source of working capital struggle financially. In the extreme, they may not be able to fund when you need it. Making sure non-bank lenders are profitable is a challenge as most are private.  Ask them to verify that they make a profit.  They can fib but if something goes wrong you have their misrepresentation on record.  Some companies, especially the internet lenders, are public and you can see their filings.  And some are scary.

To paraphrase Charles Dickens “It is the best of times, it is the worst of times.”  There have never been so many non-bank financing options.  There also have never been so many whose claim, if honest, would be “worst-in-class.”  Be careful.  Be very, very careful.

For more information on Republic Capital Access and what they can do for your business, you can visit them on their website HERE.  In addition more information about Govmates, a teaming partner platform for government contractors, can be found HERE.

Author:  Katie Bilek, Sr. VP Republic Capital Access

Originally Posted on LinkedIn:  https://jamis.com/five-must-haves-when-seeking-us-government-contract-financing/https://www.linkedin.com/feed/update/urn:li:activity:6387772567704334337