A covenant breach gives the bank a range of contractual rights: to increase the interest rate, demand additional collateral or guarantees, restrict dividends and investments, require more frequent reporting, trigger cross-default on other agreements, or in extreme cases call the loan with short notice. In practice, most banks first choose to renegotiate the terms in exchange for a waiver fee — but that requires the company to discover the breach proactively and come forward with a realistic action plan. Here are the seven most common consequences.
1. Default interest (higher interest rate)
Many loan agreements allow the bank to increase the interest rate by 1–3 percentage points as default interest. It is technically a penalty — but also pressure to get the company to rectify the situation quickly.
2. Demand for additional collateral or guarantees
The bank may require additional security, personal guarantees from owners, or guarantees from a parent company. For owner-CEOs, this is often the most intrusive consequence.
3. Restriction of dividends and capex
As long as the breach persists, the bank can prohibit distributions, acquisitions, or large investments. This locks capital in the company and reduces flexibility.
4. More frequent reporting
From quarterly to monthly reporting. In some cases, weekly cash forecasts. This increases the administrative burden and gives the bank granular insight into operations.
5. Cross-default on other agreements
If other loan agreements contain cross-default clauses, one breach can trigger formal breach on all. This can multiply the impact and put liquidity under pressure.
What you need to check: If you have multiple banking relationships, leasing agreements, or bond loans — review all cross-default clauses. Is a breach on loan X enough to trigger loan Y?
6. Waiver fee and costs
In practice, most covenant breaches are resolved with a waiver — a written dispensation from the bank. It is not free. A typical waiver costs a fraction of the loan amount, on top of legal and advisory costs.
7. Loan termination
The most serious consequence. The bank declares the loan due and payable. It is rarely the first choice — it is expensive for the bank too — but it is a contractual right they have. In practice, it typically happens when:
- The company repeatedly breaches covenants without getting back on track
- Management loses credibility or is uncooperative
- Collateral coverage is insufficient, and the bank wants to limit losses
What determines what actually happens?
The consequences depend not only on the breach — but on how you handle it. Banks reward proactivity, transparency, and realistic planning. They punish surprises and delays.
If you discover the breach early and come forward first with a plan, you are almost always in a better negotiating position than if the bank discovers it first.