Loan holders seeking to work out a commercial real estate loan must be armed with analysis and information — not a sense of entitlement spurred by the policy — and work with a lender with whom they have established a relationship.
As reporter Roger Yohem pointed out in “Policy could stop some commercial foreclosures” in the May 7 issue of Inside Tucson Business, lenders answer to examiners and federal regulators and may be inclined broadly, but not required, to apply this policy.
“Policy Statement on Prudent Commercial Real Estate Loan Workouts,” issued in October and reissued in February by the Federal Reserve Board and other federal financial regulators, guides financial institutions on renewing or restructuring loans to creditworthy commercial real estate borrowers.
Lenders are not required to follow the policy, nor does it sweep responsibility away from the borrower. In fact, the policy statement encourages the borrowers to prove their worthiness for a restructured loan.
The government’s definition of commercial real estate loans includes those for multifamily and rental income properties, and, surprisingly, residential and commercial construction loans. Land and lot loans to builders and individuals and unsecured loans to developers are also included in the government’s definition.
The decision to work out a troubled commercial loan or initiate foreclosure depends on the lender’s analysis of whether the project or property is salvageable. Therefore, it is extremely important for the borrower to furnish the information necessary for a restructured loan — to demonstrate that the project is salvageable.
Upfront research and analysis is required before the borrower walks into the bank. The policy says that the lender should have a good workout plan that includes:
• Updated and comprehensive financial information on the borrower, real estate project, and any guarantor
• Current valuations of the collateral supporting the loan and the workout plan
• Analysis and determination of appropriate loan structure (e.g., term and amortization schedule, curtailment, covenants, or re-margining requirements)
• Appropriate legal documentation for any changes to loan terms
The borrower’s plan should include an analysis of the borrower’s and the guarantor’s global cash flow and debt service requirements, which are essential in developing a good workout plan.
Most financial institutions do not foreclose precipitously but work with their borrowers when possible.
When a financial institution has to increase its “Allowance for Loan and Lease Losses” because a property’s value has decreased, it reduces the paper profitability of the institution. That does not necessarily mean the lender will start foreclosure.
A permanent and true loss is realized only when the property is foreclosed and sold at an amount less than the carrying value of the asset. Usually, foreclosure starts when, at the very least, interest payments are not made on a timely basis.
I encourage businesses to do their banking business with a community bank where a borrower can establish a personal, face-to-face relationship with his or her banker.
It doesn’t mean borrowers will always receive the answer they are hoping for, but they will get a hearing with the banker they know.
The federal policy is not an easy-out mandate for struggling commercial real estate loans. It is a set of guidelines for lenders and borrowers to work together in restructuring these loans and avoiding foreclosure on salvageable projects.
Contact Fred Dawson Jr. is an executive vice president and the chief credit officer for Commerce Bank of Arizona, an Arizona based community bank specializing in serving small to mid-size businesses in Arizona. He may be reached at email@example.com or (520) 325-5200.