With billions of dollars of commercial real estate (CRE) loans coming due this year, it seems inevitable that large numbers of borrowers will struggle to refinance their CRE loans, as property values have declined and interest costs have risen, fueling predictions that banks should brace for significant losses on commercial real estate loans. So far, however, bank-reported delinquency rates have remained much lower than during the global financial crisis of 2008. For now, at least, a widespread reckoning in commercial real estate has not materialized. As the current environment for CRE loans persists, banks increasingly will face the need to restructure loans in their portfolios. Lenders and bank counsel who were around during prior real estate downturns have engaged in the loan workout process countless times before. But many of the hard lessons learned from prior recessions have faded from our collective memory, and the intervening years have brought new lenders that were not on the scene during the last recession. For those without prior workout experience, as well as those who have not handled a troubled real estate loan in years, it is helpful to review the fundamentals of dealing with problem real estate loans. Start with a Thorough Loan Review and Other Due Diligence Any strategy for handling a problem loan must start with a thorough review of the loan file and other due diligence. Before sitting down to negotiate with a borrower, the lender must understand what leverage it brings to the table. Moreover, a forbearance or loan workout agreement is an opportunity to fix or remedy any errors or oversights in the loan documents. The lender’s review should include all documents in the original closing file and all loan modifications, credit approval memorandum, correspondence files, appraisals and environmental reports, title commitments and a thorough review of any non-real estate collateral, financial statements and other financial information pertaining to the borrower, guarantors and any pledgors of collateral, and relevant information relating to other loans and extension of credit to the same borrower or its affiliates. At the outset of the review, the lender should obtain an updated title commitment or letter report prepared by a title company. This will allow the lender to determine whether there are any title issues that need to be fixed in the context of a forbearance or loan workout agreement. For example, does the legal description in the deed of trust match that in the updated title commitment? Has any property been released from the deed of trust? Is the property owner the same as the grantor in the deed of trust? Is the property subject to any mechanic’s liens that may take priority over the deed of trust or to any junior liens or encumbrances that are not permitted by the loan documents? The title work should also reveal if there are any delinquent real estate taxes. Similarly, the lender should conduct an updated Uniform Commercial Code (UCC) lien search to determine that the security interests in any personal property governed by the UCC are properly perfected, whether there are any issues with lien priority, and if there are any IRS or state tax liens against the borrower. The lender’s loan review should verify that the information contained in the loan file is consistent with the bank’s internal reports, memorandum and credit approvals, and any discrepancies should be identified and noted. For example, if a loan was approved based on a guaranty or letter of credit as credit support, but the guaranty or letter of credit was released by a loan officer who is no longer with the bank, this discrepancy should be flagged. Common errors in loan documentation include: some documents are unsigned or missing; UCC financing statements contain incomplete or inaccurate collateral descriptions, were filed in the wrong place or have lapsed; and guaranties were not properly confirmed when loan assignment of rents. Failure to conduct a thorough review of all loan documents and related files before discussing a workout strategy with a borrower may have unforeseen and unfortunate results, including missed opportunities to fix documentary errors and shore up collateral. Loan Workouts What Lenders Need to Know By Sherry Dreisewerd, Spencer Fane LLP LEGAL EAGLE SPOTLIGHT 12 | The Show-Me Banker Magazine
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