Commercial loan modification alternative

The IRS, last September, updated Rev. Proc. 2009-45 which allows for a more proactive approach to obtain a commercial loan modification. 



The IRS realizes that owners of commercial real estate will have a harder time refinancing when their loan reaches maturity date. Due to the current tightening of credit, many borrowers in the next two years or so will not be able to refinance. Even if owners have the income stream, they still run the risk of default.

To really understand the significance of the IRS change, we need to briefly understand how commercial mortgages are packaged.

Once a loan is issued it becomes a CMBS or Commercial Mortgage-Backed Security which is pooled together with other loans and placed in a REMIC or Real Estate Investment Conduit. The purpose of the REMIC is to sell it to Wall Street investors or other investor entities as a securitized asset. PSA's or Pooling and Servicing Agreements define what a Loan Servicer can or cannot do. When is comes to modifications, the IRS imposed limits on when a modification can be started. Usually only when a borrower was already in default or near default could the process began. Also Loan Servicers were hesitant to perform major changes to loans to prevent possible tax penalties. Now the updated IRS procedure allows for a proactive role to prevent commercial loan defaults.

Under the IRS procedure update, the Loan Servicer must reasonably believe that the borrower is at risk of default at maturity date or earlier. The Servicer must diligently determine from the borrower's "credible factural written representations" that indeed a default is at risk. The good part about this update is that there is no maximum period to determine a loan default risk. This means that if a loan is performing but a year or so down the line the maturity date is due, the Servicer can take reasonable action to head-off a default through a commercial loan modification or workout. Of course market conditions, property values and credit accessibility would play a part in determining default risk.

As more loans reach maturity, we can expect owners won't be able to refinance. A workout to extend terms, lower interest, forbearance agreements or a combination of restructuring will help many to prevent a default. Hope you have found this information helpful. 

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