Standby Note Issuance Facility Snif

Key Takeaways

• SNIFs guarantee payment to a lender if a borrower defaults.
• Primarily used with borrowers who have poor credit history.
• SNIFs are similar to standby letters of credit.
• Typically used in international trade and project financing.
• SNIF arrangements are reported as off-balance sheet items.
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What Is a Standby Note Issuance Facility (SNIF)?

A standby note issuance facility (SNIF) is a bank credit facility that guarantees payment to a lender if a borrower defaults, functioning like insurance for the lender. It is often used when credit is weaker, or the parties lack a track record, including in international trade and project finance, since it helps reduce risk and enable deals. SNIFs are commonly off-balance-sheet items that represent potential future obligations.

Understanding a Standby Note Issuance Facility (SNIF)

Standby note issuance facilities (SNIFs) are used most frequently when a lender agrees to lend money to a weak borrower who poses a higher risk of default. A bank that issues a standby note issuance facility (SNIF) will charge a fee to the lender for providing this guarantee as well as to be compensated for taking on this extra risk.

The lender can either pay this fee themself or they can pass the cost onto the borrower as a cost of doing business in relation to their poor credit quality. The guarantee of the SNIF may be a condition of the loan in order for the lender to make the initial principal payment to the borrower. Standby note issuance facilities are similar to standby letters of credit as they are a type of letter of credit (LOC).

Accounting for Standby Note Issuance Facilities (SNIFs)

Standby note issuance facility (SNIF) arrangements are often reported as off-balance sheet items for financial reporting purposes. They are possible future obligations that may or may not be realized, depending on the outcome of the transaction between the primary parties.

Despite this uncertainty, banks have to take into consideration the possible liability that may come on their books if they are required to make whole on their guarantee. Banks will do their due diligence on the borrower as well as perform an actuarial analysis on the deal to ensure they are able to fulfill their obligation. In addition to charging a fee for the guarantee, banks might ask for collateral.

Situations for Using Standby Note Issuance Facilities (SNIFs)

Standby note issuance facilities (SNIFs) are not used for regular loans, such as personal loans or mortgages. They are often used in international trade to facilitate transactions between parties that are unfamiliar to one another. The lender can have a poor credit quality but does not necessarily have to. The borrower may simply be unfamiliar with the borrower, never having transacted with them before, and, therefore, is mitigating their risk by taking on a guarantee from a bank.

Letters of credit are the primary documents used in facilitating international trade. They are negotiable instruments that guarantee payment if the goods or services are not delivered. Both letters of credit and standby note issuance facilities (SNIFs) help obtain contracts or loans as the party taking on the monetary risk has now had its risk reduced and, therefore, is more comfortable facilitating a transaction.

Standby note issuance facilities (SNIFs) can also be used in project financing. For example, a business may believe it has found oil deposits and needs capital to purchase machinery to dig an oil well to extract the oil. The company does not have any cash flow but is hoping to generate cash once it taps into oil and is able to sell it. If the company cannot obtain a traditional loan and borrows money from a separate party, that lender may seek to mitigate their risk by obtaining a standby note issuance facility (SNIF) from a bank, in case the oil company is not able to access oil and generate cash.