Business loans, including commercial real estate loans, often make it possible for a company to begin operations or expand its business. Unfortunately a business’s cash flow may fluctuate, and then those same loans that enabled the business can cripple, even threaten the future of the operation. The lender wants to get paid. The company leadership wants to keep operating and increase profitability. In some cases, it is in the best interests of both parties to negotiate a loan modification. A change in repayment terms, whether that means a reduced interest rate, stretching out payments over a longer period of time, or other adjustment, may give the business the breathing room it needs while increasing the lender’s chances of ultimately being repaid. Existing loan terms may be complex and negotiating a loan modification that is workable for the business may be complicated as well. Working with an attorney experienced in negotiating commercial loan modifications can smooth the process and improve the outcome.
Commercial Loan Modifications vs. Commercial Loan Workouts
Often people use the phrases “loan modification” and “loan workout” interchangeably. However, there is a difference. While a loan modification involves rewriting the terms of a loan, a workout may include multiple components. In some cases, a loan modification may be included in a workout. However, the workout may also include other strategic solutions, such as a period of forbearance. Before seeking to modify the terms of your loan agreement, it is important that you understand what those terms are and how they impact your current situation and your options. Unfortunately not every business owner or executive takes the time or makes the investment to fully understand those terms when entering into a loan agreement. That can lead to unpleasant surprises, but may also mean that you have options of which you are not aware. Before you approach your lender to discuss a loan modification, carefully read your existing loan documents and consider consulting a business financing attorney who can review the documents with you and explain exactly where you stand.
Qualifying for a Loan Modification
Whether or not a lender will approve a loan modification request depends on a variety of factors. In short, the lender’s motivation for offering a modification will be to maximize the likelihood of payment of the debt. Thus, your likelihood of receiving a workable loan modification will largely depend upon your ability to demonstrate a strong likelihood that the modification will allow you the relief necessary to increase your revenues and resume or continue making payments. Some of the factors that will influence this analysis include:
• How proactive you are in addressing problems–a lender will typically be more likely to work with you if you make contact and seek out solutions as soon as you know that you will be unable to meet the existing payment terms
• The extent to which equity in the property secures the lender’s interest
• Your payment history on the loan and your general credit history
• Your business plan and realistic, supportable projections for future revenues
Talk to an Experienced Loan Modification Attorney
Doing the groundwork enhances the possibility that your lender will agree to a loan modification and may improve the terms available to you. Experienced commercial finance attorneys can assist you with every step of the process, including:
• Understanding your current loan documents and the options available to you
• Assessing what terms will realistically allow you to make payment on the loan while maintaining your operations
• Putting together documentation to help assure the lender of your future ability to pay
• Putting together a proposal for the lender
• Negotiating on your behalf
• Reviewing modification documents and ensuring that you fully understand your rights and obligations.
In these challenging economic times businesses are experiencing difficulty in meeting their commercial real estate loan obligations. Many factors contribute to the current market conditions. Billions of the dollars in financing that mature in 2010 were funded through commercial mortgage-backed securities (CMBS) transactions. The CMBS market is slowly emerging from its near demise, and as such, it is not generally a viable funding source for refinancing. Commercial loans to refinance debt on reasonable terms are difficult if not impossible to find. Many lenders are requiring equity contributions of 50% or more of the current value of a property before even considering a new real estate loan. Moreover, personal guaranties are becoming a standard requirement. Adding to the difficulty are: the steep decline in property values across all commercial real estate industry sectors and higher vacancy rates. In many instances property values have dropped below the secured loan amount. Compounding the problem of pending maturity defaults is the spectre of defaults based on covenants such as debt service coverage ratio requirements and loan-to-value thresholds, the breach of which may constitute a direct default or may preclude negotiated extensions on terms acceptable to the borrower.
What steps can a borrower facing a pending maturity date or a default in one or more of the loan covenants take?
The most practical solution is a loan workout with the existing lender providing for the modification of the loan terms on a basis that is both acceptable to the parties and is realistic given the anticipated performance of the real estate market during the modified term. The lender already has the loan on its books and has every incentive to maintain the loan as a performing loan. The borrower wants to preserve as much of its equity investment as possible and the lender wants to avoid foreclosure and have as much of the principal and interest paid on the loan as possible. The borrower’s first step in a loan workout is to review and understand all of the loan documentation. Given the volume of financing transactions that were closed during the years preceding the financial crisis, many loans were negotiated and documented in haste, often with a misunderstanding by the borrower of the loan documents’ conditions and covenants. The borrower and any guarantor should have a clear understanding of the terms and conditions of the existing obligations before undertaking negotiations with its lender. For example, is the loan “non-recourse”? In other words, will the lender be limited to foreclosing on the property in the event of a default and be precluded from going after other assets of the borrower or the guarantors? If a loan is non-recourse, and there is no reasonable expectation that the property will be worth more than the current loan amount, a negotiated foreclosure or a conveyance of the property to the lender by a deed-in-lieu transaction may be borrower’s best course of action. Secondly, open communication with the lender is critical at all stages of any negotiation. Lenders do not like surprises. If the borrower is unable to make a scheduled payment, or may otherwise violate its loan documents, it is generally a good idea to advise the lender in advance. The lender’s preference is to have the borrower perform its obligations on a timely basis; as a general matter, the preferred choice, if there is a default, is not to immediately foreclose on the collateral. However, if the borrower is less than forthright, the lender may not be willing to engage in any loan workout discussions. Next, the borrower must carefully evaluate the prospect of its ability to perform the loan obligations and the market conditions of the local real estate market. There are a number of other modifications to the loan documents that can be proposed in negotiating a loan workout including:
• raising or lowering interest rates,
• extending maturity dates,
• principal prepayments reducing the loan amount,
• additional security,
• changing payment dates, and
• permitting the assumption of the loan by a new borrower without a release of the original borrower entity or guarantors.
Ideally, the goals of a successful loan workout are to negotiate a modification agreement acceptable to all parties which maximizes both the borrower’s potential for recovery of its equity and the repayment to the lender of as much of the principal and interest of the original loan as reasonably possible. This can be achieved only with a realistic evaluation of the legal obligations of the borrower (and those of any guarantors), and the local real estate market conditions, together with honest negotiation among all the parties.
How to Choose a Commercial Loan Modification Lawyer
The vast majority of companies that facilitate loan modifications in the United States are solely dedicated to helping residential homeowners. It can be difficult for the commercial property owner who needs a commercial loan modification to actually find a company that has experience and knowledge in processing successful commercial loan workouts. The commercial property owner who is facing the prospect of foreclosure has a few different options when he or she is attempting to modify their loan.
Essential Steps to Modify Your Commercial Loan
When the real estate market imploded a few years ago, commercial properties felt the hit too. And while things are finally starting to look up, no property owner is out of the woods yet.
Real Estate for the Small Business Owner: Most small business owners have been accosted with a slew of real estate based troubles. First, a new business has to consider the pros and cons of investing in commercial property. Once that step has been taken, there is great effort to be made in keeping up with the mortgage as your business tries to garner momentum towards success. While many have heard about residential loan modifications, small business owners may find themselves in a modification dilemma as well. Here are some tips small business owners should consider when a commercial loan gets out of hand.
• Be Proactive: Commercial loan modifications are called workout loans. The idea, of course, is that with the new repayment plan, you’ll be able to work out whatever business glitches you’re encountering and thereby return to profitability. The important thing to remember here is: you must be proactive. Contact your lender before your loan goes into arrears. Your diligence and legitimate desire to make things right with the lender will shine favourably on your modification attempts. Be forewarned that in some instances, contacting the lender prior to experiencing late payments may not initiate a move towards modification on their end. They tend to think all is well until there’s a late payment. However, don’t let that position hinder you from calling. Once again, being proactive is essential!
• Be Prepared: When you get in contact with your lender, it will be in your best interest, and most effective, if you have some documents at your fingertips. The following documents should be readily available to you while you’re on the phone with your mortgage holder:
A hardship letter that explains why you need this modification.
Your current business plan.
Recent (perhaps all) tax returns.
Any additional financial documentation. Being prepared will enable the lender to understand the import of restructuring your loan. They don’t want your loan to go into default either.
• Schedule a Meeting: Sometimes things are better off done face to face. Certainly the legitimate concern you are experiencing will show in your facial expressions and body language. In addition, the lender will be able to have, in hand, the actual documentation, not just computer generated images of it. If your lender isn’t available, or if you’re not prepared to negotiate on your own, you might consider hiring someone else to work on your behalf (like a loan modification attorney). However, if you’re able to take care of it, prepare all your documentation and ask the lender how to proceed with the modification process. It’s possible that they will offer you the chance to refinance. While closing costs are probably going to be tacked on, they might be able to add them into the refinanced amount.
• Ask Questions: If you’re given the opportunity to refinance or modify your loan, there will be several things to consider. Sometimes modifications include lengthening the repayment time on the loan in order to decrease the monthly payment. In other instances, there’s an upfront fee for the modification process. Ask questions. Make sure that everything the lender is suggesting is going to be doable for your operation. Don’t agree to a repayment plan that is ultimately going to fail. Ask questions about everything—fees, interest rates, length of the loan, etc.
Commercial Loan Modification Attorney
When you need legal help with a commercial loan modification, please call Ascent Law LLC for your free consultation (801) 676-5506. We want to help you.
8833 S. Redwood Road, Suite C
West Jordan, Utah
84088 United States
Telephone: (801) 676-5506