CrunchedCredit : Capital Markets Finance and Real Estate Attorneys

The Rev Proc also provided exemption for a “qualified paydown.” This is a release where the loan’s balance is reduced by a “qualified amount.” A qualified amount, for these purposes, includes an amount equal to (i) the net proceeds of an arm’s length sale of the release parcel to an unrelated person, (ii) the fair market value of the release parcel at the time of the release or (iii) an amount such that the loan-to-value ratio of the loan (as determined by the lender according to an acceptable REMIC valuation) does not increase as a result of the release.

So what does all that mean for a securitizer or mortgage loan seller conveying loans into a deal these days? Essentially, if loans are grandfathered, it’s business as usual. But what about loans originated or modified after December 6, 2010 with release mechanics? Obviously, as the market reflates, more loans going into new securitizations were closed after that magic date. Then we have two options. First, make sure that the loan documents are drafted at origination to be in compliance with the Rev Proc or find and modify any existing loan documents to make them compliant before putting them into a deal. As mortgage loan originator/seller or its counsel, ya just got to focus. Is there a release provision that may blow up the REMIC? What to do if you’ve found a loan originated or modified after December 6, 2010 with non-compliant provisions? Fix it or throw it out.

The servicer’s job has been made easier on this conundrum by CMBS 2.0 practice. CMBS 2.0 documents now generally contain a rep confirming that no releases are allowed in the loan documents other than in compliance with applicable REMIC provisions. This gives an out to a servicer who might otherwise be caught between the proverbial rock and hard place of a contractual obligation to permit a release and its obligation to prevent any REMIC violation. If the servicer discovers a non-compliant release mechanic, the loan can then be put back to the mortgage loan originator/seller for breach of rep. A solution for the servicer. Cold comfort for the originator/seller.

As you contemplate this nifty additional trap for the unwary, remember this release restriction applies to outparcels even if underwritten at no material value, and it applies to partial releases resulting from casualty or condemnation (whether voluntary or involuntary) and releases under a cross-collateralized structure or a multi-property portfolio structure.

Within the tsunami of regulatory change that our industry is confronting, these REMIC changes were a one-day wonder and have since gotten little attention outside servicer land. But this is important, particularly for the originator/seller. At the end of the day, you’re going to give a clean rep that the loan documents comply. A non-compliant release restriction is easy to miss. The price of screwing up is high. Save at least one worry bead for Rev Proc 2010-30.

By Devin Swaney.

Timing is everything – and the new 80% test was instituted in the wake of the largest devaluation of commercial real estate in history. As most lenders could attest, a 125% ltv on an otherwise performing mortgage loan in 2009 was far from unheard of. This placed CMBS servicers between a rock and a hard place when the borrower had the right to sell off a property. Denying the release presumably meant facing a lawsuit from the borrower (to say nothing of claims by B note holders and mezz lenders); permitting the release resulted in a violation of the REMIC Rules, and possible liability to bondholders under the PSA.

The Rev Proc attempts to right the ship by creating two safe harbors. First, the Rev Proc allows for releases for “grandfathered transactions” – releases permitted under loan documents executed prior to December 6, 2010. The second of the safe harbors permits “qualified pay-down transactions” - releases in exchange for a principal pay-down in a qualifying amount.

The fix offered by the Rev Proc isn’t without its own set of uncertainties, however. You’ll notice a “grandfathered transaction”, by its terms, seems to include releases pursuant to contracts executed prior to this coming December. However, I don’t believe there is any consensus among tax practitioners as to whether the IRS means to indicate that existing mortgage loans could be amended in coming months to be brought into compliance (the examples provided in the Revenue Procedure unfortunately don’t offer guidance). And the definition of what constitutes a qualifying pay-down could prove very difficult to meet in some circumstances. The Rev Proc essentially requires 100% of sale or condemnation proceeds be applied toward the outstanding principal of the loan, allowing for no deduction for typical transactions costs like brokerage fees, restoration (think new curb cuts required when the city widens a road) or, ahem, legal fees. Not even reasonable legal fees.

Still, the Rev Proc goes a long way toward addressing the immediate concerns that were raised last Fall (pdf). As for it limitations – I think they will remain – no one anticipates further comment from the IRS on REMIC issues any time soon.
 

The immediate problem could be fixed in any number of ways (many of which have been suggested in writing by industry groups such as the American Securitization Forum and the CRE Finance Council (formerly CMSA)). Proposed solutions include clarifying that the release of collateral in exchange for the payment of a release price would not be deemed a modification under the REMIC rules, or replacing the existing principally secured by real estate test with a before-and-after LTV test.

Until resolved, this issue will continue to frustrate the already stalled CMBS lending industry.

Photo:  Flickr user kalleboo