Written byA commitment letter is a document from a lender confirming it will provide a specified amount of finance on stated terms, subject to listed conditions being met before drawdown.
Also known as: letter of commitment, loan commitment letter, funding commitment
Key points
- It sits between the term sheet and the full loan agreement, recording the amount, fees, security requirements and conditions precedent.
- Parts are usually binding (confidentiality, exclusivity, commitment fees) while pricing marked 'indicative' or 'subject to credit approval' is not.
- If the conditions precedent are not met by the expiry date, the lender can usually withdraw without liability.
- A commitment fee is often charged on undrawn amounts for keeping the facility available; break fees may apply if you cancel.
- Watch for open-ended conditions with no timeline, broad lender discretion to refuse to lend, uncapped warranties and hidden break fees.
Where a commitment letter fits
The usual sequence in a business finance deal is a term sheet or letter of intent, then a commitment letter, then the loan agreement and security documents. A term sheet is a short, non-binding outline of commercial terms used early in negotiations; a letter of intent is similar but may add binding confidentiality or exclusivity. The commitment letter is the formal step where the lender records its commitment to fund, with specific legal clauses and a list of conditions precedent. The loan agreement is the full, legally binding contract that governs the loan once those conditions are satisfied.
Commitment letters come in several forms: a bank or loan commitment for a facility, a bridging finance commitment for short-term money with quick drawdown, an equity or investment commitment from an investor, and a sponsor or vendor commitment used in M&A or project finance.
Whether a commitment letter is binding
Parts can be binding and others conditional or non-binding. Under contract law you need offer, acceptance and an intention to create legal relations. Confidentiality clauses, exclusivity periods, commitment or arrangement fees and governing law clauses are typically binding, and so is a promise to lend once conditions precedent are met if the wording is unconditional. Commercial summaries and pricing stated as 'indicative only' or 'subject to credit approval' are not.
Courts look at the wording and the context. Words like 'obliges', 'undertakes' or 'agrees' signal binding intent; 'indicative', 'subject to' or 'for discussion only' signal the opposite. If the lender withdraws because conditions were not met by expiry it usually has no liability, but if it withdraws despite satisfied conditions and an unconditional promise to lend, you may have a contractual claim.
Key clauses and conditions precedent
The core clauses cover the commitment amount and any sub-limits, the expiry date and how to extend it, conditions precedent, representations and warranties, covenants about how the business will behave (financial covenants can trigger default), the security and any guarantee required, fees, whether the lender can assign the commitment, governing law, default remedies and confidentiality. A personal guarantee puts the director's own assets behind the facility, so the scope, cap and release terms are worth checking with a lawyer before signing.
Conditions precedent typically include board or shareholder approvals, legal, financial and tax due diligence, delivery of historical and pro forma financials, executed security documents with PPSR registration, insurance certificates and valuations, and a 'no material adverse change' condition. Each can take days to weeks, so allow several weeks for a complex transaction, and ask for a short list of closing conditions with non-essential items deferred until after closing.
Example
A manufacturing company negotiates a $1,000,000 secured term loan for a new production line. The lender issues a commitment letter setting out the amount, security over the equipment, a commitment fee on any undrawn balance and a schedule of conditions precedent: board minutes, executed security documents, PPSR registration, a valuation and insurance certificates. The letter expires on a fixed date unless extended in writing, so the company's advisers work through the conditions against that deadline. Only once they are satisfied is the loan agreement signed and the money drawn.
Not to be confused with
- Facility letter
- a facility letter records the terms the lender is offering and is often binding only in part until the facility agreement is signed, while a commitment letter is the lender's commitment to fund subject to its conditions precedent
- Drawdown
- drawdown is the moment the funds are actually advanced; the commitment letter is the promise to make them available once its conditions are met
Frequently asked questions
Is a commitment letter the same as an offer letter?
Not always. An offer letter or letter of offer usually records the terms the lender proposes and is often binding only in part until the facility agreement is signed. A commitment letter goes further: the lender commits to fund, subject to the conditions precedent it lists. Read the wording rather than the title.
How long does a commitment letter last?
Until its expiry date, which the letter states along with any mechanism for extending it in writing. If the conditions precedent have not been satisfied by then, the lender can withdraw. Treat the expiry date as the deadline for board approvals, due diligence, security documents and insurance.
Can a bank change the terms after issuing a commitment letter?
Only if the letter reserves that right, or if conditions precedent require further approvals such as final credit approval. Where the terms were unconditional, changing them may be a breach. This is why the binding and non-binding parts of the letter need to be read carefully before you rely on it.
What is a commitment fee?
A fee the lender charges for reserving the facility, usually calculated on the undrawn portion for the period it is held available. Borrowers often negotiate to reduce or remove it on fully drawn amounts, or to tier it. Break fees are separate and may apply if drawdown is cancelled.
What do I need to deliver to draw down the funds?
Typically the executed loan and security documents, evidence of corporate approvals and capacity, PPSR registration details for any security, insurance certificates, valuations and confirmation there has been no material adverse change since signing. The letter's schedule of conditions precedent is your checklist.
Related terms
Facility letter
A facility letter is a lender's written confirmation of the terms on which it proposes to provide a loan or other finance facility to a borrower.
Read definitionDrawdown
A drawdown is a borrower taking funds under an approved loan facility, in one payment or in stages, once the lender's conditions have been met.
Read definitionCovenants
Covenants are promises, obligations or restrictions written into a contract or recorded on land title that bind the parties, such as a borrower's promise to maintain minimum interest cover.
Read definitionSecurity (collateral)
Security (collateral) is an asset or legal interest a borrower grants a lender, which the lender can take and sell to recover the debt if the borrower defaults.
Read definitionGuarantee
A guarantee is a contract in which a guarantor promises a creditor to pay or perform if the principal debtor defaults, supporting the debt rather than replacing it.
Read definitionPersonal guarantee
A personal guarantee is a legally binding promise by an individual, usually a director or business owner, to pay a creditor if the borrowing business or person defaults.
Read definitionGo deeper
Sources
This article is general information only and is not financial advice.