When a person or business takes out a loan, they usually do so with the intention to pay it back in full and with interest. Yet when one does not fully repay a loan, lenders have a variety of tools they can use to recoup some or all of the missed payments.
One of these tools is a lien, or the legal right to a borrower’s collateral. A lien is a legal right giving lenders the right to the right to take control of the asset that is subject to the agreement between the lender and the borrower. How liens work — and how they apply to private credit investments on Percent — is something all investors should understand before making their first investment.
How Liens Work Between Borrowers and Lenders
If a loan is defaulted, or certain minimum requirements are not met, then some or all of a borrower’s collateral can be repossessed as a result of a lien. Lenders can hold onto a borrower’s collateral until a loan is satisfied, or they can use the collateral to pay off some or all of the original loan by perhaps seizing the underlying assets and selling them for immediate liquidity. Even after forfeiture of collateral, borrowers might still be required to part with additional assets to pay off the remainder of a loan.
How and when liens are enacted depend on the terms of a loan, and not all loans require collateral or involve liens. Those that do are called secured loans and typically carry lower interest rates than unsecured loans, or those not requiring collateral.
How Liens Applies to Private Credit Investments
When you invest in private credit deals on Percent, you’re investing in assets like loans, cash advances, and other forms of short-term credit. To receive the funds from a secured loan, business or consumer borrowers must put up collateral. Should that business default on the loan, the collateral would typically be liquidated as a result of a lien. Borrowers may allow collateral to be subject to a lien in order to secure better loan terms.
Not all assets on Percent are secured, and thus not all Percent investments involve liens. Like all investments, there is always the risk of losing your principal investment. Yet if one were to invest in a deal involving a secured loan that is defaulted on, investors may benefit from a potential sale/liquidation of the collateral.