Loan participations have long been a staple of the financial markets. Banks and other loan market participants favor them for a myriad of reasons. For example, they allow the originating (or lead) creditor to remove (or derecognize) underlying loans and commitments from its balance sheet, or to avoid exceeding borrowing limits under internal or regulatory guidelines while maintaining client relationships and administrative control. The originator can oftentimes collect arrangement and administration fees without bearing the associated credit risk. On the participant side, they reduce visibility into an institution's exposure to a particular credit and enable diversification of a portfolio without the accompanying administrative burden.

But participating in a loan through an intermediary, in this case an originating creditor, creates its own level of risk, namely the credit risk of the originator. For that reason, the participant often wants assurances that the loans and related collateral have been “sold” to it, and it has full property rights in those assets and not merely the right to proceeds from the lead creditor.

When do loan participation agreements transfer the actual property rights of the originating creditor versus merely a contractual right against the counterparty to proceeds of that property? That question was the subject of a decision earlier this year by the Supreme Court of Iowa in the case of Central Bank and Real Estate Owned, L.L.C. v. Timothy C. Hogan, as Trustee of the Liberty and Liquidating Trust et al., 891 N.W.2d 197 (Iowa 2017). Though not groundbreaking, this case provides a thoughtful discussion on this subject, an interesting emphasis on “trust” language, and an opportunity to re-visit current thinking of courts on the issue of when participations are true sales of loan interests.