Financial Markets and Institutions (2-downloads)

3. Covenants to keep collateral valuable.

Because collateral is an impor-

tant protection for the lender, restrictive covenants can encourage the bor-

rower to keep the collateral in good condition and make sure that it stays in

the possession of the borrower. This is the type of covenant ordinary people

encounter most often. Automobile loan contracts, for example, require the car

owner to maintain a minimum amount of collision and theft insurance and pre-

vent the sale of the car unless the loan is paid off. Similarly, the recipient of

a home mortgage must have adequate insurance on the home and must pay

off the mortgage when the property is sold.