Borrowers of commercial and multi-family properties considering options as the COVID-19 pandemic plays out must weigh a host of immediate decisions; some with short-term implications, as well as others that carry longer term effects. For all parties involved, no one has been through a pandemic before, so workout policies must be created along the way. To be sure, the path ahead during these highly volatile times, will not be simple or easy to navigate, whether borrowers intend to seek payment relief, loan modifications or other forbearance requests.
The process and pursuit of forbearance is evolving in stages. Lenders and mortgage servicers were immediately inundated with relief requests prior to borrowers registering their first late rent payment. The government moved quickly to allow the banks to modify loans, which pressured other areas of the capital markets to implement response policies. All other market participants, without government support, were forced to play catch-up to move ahead, while handling a tsunami of requests. Now over a month into the COVID-19 pandemic, the relief request process is starting to settle out into stages due to lender experiences, regulatory guidance, and property data surfacing as shelter-in-place restrictions are opening.
Early Lender Response
Each lending source will make decisions based on the regulatory body behind their investments and the stakeholders in their organizations. Banks, for example, are driven by FDIC regulations and their shareholders. In March 2020, the banks led the market restructuring by allowing interest-only grace periods of three to six months. They were able to offer these programs because of the government support and FDIC relaxing loan modification capital charges. However, not all banks act uniformly, and a few have recently taken a hard line by not offering any relief, despite demonstrated problems.
The banks were followed in responding to relief requests by the other commercial mortgage participants and the agencies are driven by government mandate. Multi-family rental receipts for April 2020 were generally stronger than expected, although the next few months may be more critical as shelter-in-place orders prolong. CMBS participants want to be helpful to their borrowers but their structure allows for little flexibility of all the capital sources and their decisions are primarily driven by Special Servicers. Life companies are regulated by their state of origination and the National Association of Insurance Commissioners (NAIC). Without the support of the government, each life company has scrambled individually on how to best approach modifying loans. Several life companies have already successfully built strong processes for reviewing relief requests, where others are still playing catch-up to even assess the vulnerabilities of their portfolios.
How Should Borrowers Prepare?
No matter what your lending source, the first stage of a borrower relief request is deciding on the ask. What are the real problems faced with the property, tenant credit or borrowers’ cash flow? Is it a property management issue or future cash flow concern? Are the tenants considered an essential service within that local jurisdiction and are they paying rent? Remember that not all property types are considered equal. Once the root problem is identified and you know what is needed, the borrower in conjunction with our team can begin to build an argument for the forbearance request. The steeper the ask, the more evidence is needed to build the argument.
Property management flexibility is critical during these times. Despite loan document restrictions, the borrower may need the ability to modify leases with tenants or to streamline that process without lender involvement for large projects with a variety of tenants. Given the circumstances surrounding COVID-19, this request might be an easier ask than during stable times, particularly if lender safeguards are built in surrounding lender notice, duration of the ask, and excluding certain tenants. In this case, the borrower may still plan to make mortgage payments as scheduled to the lender but wants the flexibility to offer a variety of options not allowed by the loan documents as conversations with the tenants develop.
Extended payment relief requests become more complicated as short-term payment modifications are considered. In these cases, the borrower request may focus on existing reserve accounts used for short-term payment support, temporarily changing the loan payments to interest-only for three to six months or deferring a certain number of loan payments entirely. Loan re-amortization is another option that may be easier when the loan has been paid down significantly and a short amortization might be hampering the property during a limited cash flow moment.
Deference of payments is a more challenging ask for lenders. As a result, we have not seen many lenders accept this option. Deference occurs when the borrower indicates it cannot pay for a period of time and is seeking to add that time to the loan on the back end. In order for this request to be successful, the borrower must be able to demonstrate with plenty of data on how the property cash flow will be restructured over that time so that payments can begin again and show the path towards loan payoff.
The nuances of these stages will evolve over time. For interest-only and deference requests, tenant problems must be demonstrated thoroughly. We have already seen many cases where the borrower thinks that they will have a problem with their tenants based of conversations rather than actual collections. However, according to many lenders, these conversations or borrower intuition on future cash flow issues will not suffice. Forbearance requests on assets that showed positive cash flow in March and April of 2020 will also have a challenge in getting approved. Substantive documentation demonstrating current or future cash flow issues are critical to a successful request.
Leveraging Our Partnership
Ideally, borrowers should have an advisor at their side such as a mortgage banker and/or mortgage servicer who can help frame the argument, know the lender’s hot buttons, and look at the situation objectively to assess the best timing for the request. Lenders are all working on an abundance of fire drills at the moment. Now couple that with trying to process requests from home offices that leaves them with very little time to deal with incomplete or uninformed requests. The mortgage banker will be able to ensure a complete file is met that is tailored to both the property in question and the property’s lender. The mortgage banker will also be able to provide market commentary to the lender to help them make an informed decision based on the specifics the property and the market are experiencing. Each commercial property has its own highlights, limitations, and circumstances impacted by COVID-19 and part of the mortgage banker’s role is to weave that information into each forbearance request.
Fees are a consideration when submitting relief requests. In some cases, a simple letter allowing management to negotiate with tenants without lender approval may not cost anything. However, more complex requests where loan payment terms are modified may trigger loan document changes and legal fees. Changes to CMBS loans may require the loan to be transferred to the Special Servicer which can cost thousands. Navigating the fees involved is critical when the property’s cash flow is already compromised.
A large problem the lending community is facing is the volume of forbearance requests and developing a process to manage that workflow. Lenders weren’t expecting the deluge of requests; thus, it is taking them time to ramp up, redeploy resources, and re-staff departments – even as their own organizations combat COVID-19 issues with their staff and offices. Lenders are adapting the best they can in these challenging times and positive steps have been taken but borrowers must remember these circumstances when navigating their forbearance requests.
As the foundation of real estate finance, relationships are primary. Borrowers with strong and stable relationships with their mortgage bankers, mortgage servicers, and lenders have been the first to navigate through this initial period with meaningful loan modifications. That has put them on a path through these challenging times, as the market adjusts and responds with every week that passes. Since mid-March when the initial relief requests started, it has been encouraging to see so many lenders already providing substantive relief to borrowers and properties that desperately needed it. It gives us hope for brighter days in the weeks and months to come.