Letter of Comfort Definition
A letter of comfort is a financial document, indicating a willingness to support a subsidiary company to meet its financial obligation. The letter of comfort is usually written by an accounting firm or a parent company to a lender.
It gives assurance that the parent company is willing to support the subsidiary company. It is a backup document to a firm that needs financial support from a lender. A letter of comfort is also known as a letter of intent.
A Little More on What is a Letter of Comfort
In banking, the document is usually issued by a bank to its clients. The letter indicates the willingness of the bank to offer a short-term loan where necessary. In government affairs, the document indicates the assurance of the federal government or state willing to support the public enterprise lender. It explains to the supplier the support it is willing to give the borrower to ensure that it settles its obligation in time.
A comfort letter is usually signed prior to the public offering’s closing date. The issuer is supposed to prepare a registration statement and ensure that the supplier gets the necessary information. The information is to help the supplier to make an informed decision.
Generally, a letter of comfort is not a legally binding document and, therefore, it should not be mistaken to be a confirmation letter. The document is a moral obligation to help a subsidiary company acquire a loan.
Who can Issue a Letter of Comfort?
Different entities use a letter of comfort. Some of these entities include the following:
The accountant issues a letter of comfort in the form of a pertinent financial statement. The financial statements are meant to confirm to the lender that the borrower’s financial status is stable. A financial statement provided to the lender usually has a detailed and updated financial information. The information in the statements should assure the lender that there is no possibility of changes in the figures provided.
Underwriters may also issue a letter of comfort as an affirmation. The letter assures that the investigation and the written letter bears no mistakes. The document is written evidence to show that the information given is based on in-depth research. In other words, it indicates that the information is accurate. The underwriter’s letter of comfort ensures that the issuer does not incur financial omission and misstatement liabilities.
A company is also another entity that issues a letter of comfort. However, due to risks involved, most companies refrain from issuing this document unless the situation demands them to do so. If the document is poorly worded, the issuing company may be forced to pay the debt. It happens when the subsidiary company fails to meet the obligation of repaying the loan. The lending institution usually turns to the primary company that, in this case, is the guarantor to settle the loan.
The company needs to ensure that the information given to the lending institution (bank) is satisfactory to avoid risks. Information surrounding liability issues should be well clarified. The emphasis on liability is important as it ensures that the lender does not misinterpret the letter for the payment obligation.
Banks issue a letter of comfort to the supplier on behalf of its clients. The document is an assurance that the supplier’s financial ability, as well as the buyer’s legality, is consistently maintained in the trade. It also assures the lender that the client is financially stable and can engage in the business. The document is accompanied by a Signed Sales and Purchase Agreement or Purchase Order.
Where the government affairs are involved, this document indicates an assurance of the federal government or state’s willingness to support the public enterprise lender. It explains the support it is willing to extend to a lender to ensure that it settles its obligation in time.
Comfort Letter Considerations
When structuring a comfort letter, you should ensure the following:
- The information does not have any possible legal formalities or unnecessary risks
- All the statements prepared by a company or bank should consist of relevant facts and valid information
- The document does not cause unintended tax liabilities. Meaning that the issuer of the document should put a disclaimer and detailed credit services to avoid this
- The document should include a statement where the bank acknowledges that is aware of all the financial obligations involved
Terms Included in a Comfort Letter
The following terms apply to the letter of comfort:
- A parent company should issue a statement that admits that the subsidiary has committed itself to a contract.
- A statement of comfort showing the extent to which a primary company is willing to offer support to the subsidiary company towards fulfilling its terms of the contract.
When to use a Comfort Letter
A comfort letter is issued in the following circumstances:
- Where a company is not able to access financial support after numerous negative pledges to the lenders.
- Where the lender is not willing to give a guarantee a loan because the company has reached the limit amount of its contingent liabilities.