Acceleration Clause
Key takeaways
- An acceleration clause (or acceleration covenant) allows a lender to demand immediate repayment of an outstanding loan if the borrower breaches specified terms.
- Common triggers include missed payments, transfer or sale of collateral, or violation of other loan covenants.
- Acceleration protects lenders from default risk; for borrowers it can lead to immediate payoff demands, foreclosure, or efforts to negotiate alternatives.
What it is
An acceleration clause is a contract provision that enables a lender to require full repayment of a loan before its scheduled maturity when the borrower fails to meet certain obligations. It defines the events that permit acceleration and the lender’s remedies once the clause is invoked.
How it works
- Typical triggers
- Missed or delinquent payments (some clauses act after one missed payment, others after multiple).
- Transfer or sale of the secured property.
- Breach of covenants (e.g., failure to maintain insurance, pay taxes, or meet financial ratios).
- Effect of invocation
- The entire outstanding principal (and sometimes accrued interest and fees) becomes immediately due.
- If the borrower cannot pay, the lender may foreclose on secured property or pursue other legal remedies.
- Variations
- Mortgage loans commonly include acceleration clauses tied to payment defaults.
- Commercial loans and bond indentures may include broader acceleration triggers tied to insolvency or cross-defaults.
Example
A borrower has a five-year mortgage. The loan agreement states that one missed payment permits acceleration. If the borrower misses a payment in year three, the lender can demand the entire remaining balance immediately. If the borrower cannot satisfy the demand, the lender may begin foreclosure proceedings.
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Implications and remedies
- For lenders: acceleration reduces exposure to prolonged default and gives a clearer path to recover value from collateral.
- For borrowers: acceleration can produce severe financial consequences, including loss of property or damage to credit.
- Common borrower responses when acceleration is threatened or invoked:
- Cure the default by paying missed amounts plus fees (reinstatement).
- Negotiate loan modification or forbearance with the lender.
- Refinance the loan or sell the collateral property.
- Defend against improper acceleration in court if the lender breached contract terms.
Preventing and responding to acceleration
- Maintain timely payments and comply with loan covenants.
- Respond promptly to notices from the lender.
- Seek early communication and documentation when facing financial difficulty—options may include modification, forbearance, or short sale.
- Consult a loan officer or attorney if acceleration is demanded to explore legal defenses or negotiation strategies.
Summary
An acceleration clause gives lenders the contractual right to demand full repayment when specified breaches occur. It is a common protective provision in mortgages and other large loans. Understanding the triggers, consequences, and possible responses can help borrowers avoid or manage acceleration events.