04 November 2009

Administration Issues Guidlines For Commercial Loan Restructuring

DS News

Federal banking regulators issued guidelines Friday to encourage “prudent commercial real estate (CRE) loan workouts.”

In a statement from the FDIC, officials acknowledged that CRE borrowers are dealing with diminished cash flows, depreciated collateral values, and prolonged delays in selling or renting commercial properties – all factors to that some fear could ignite another economic tailspin.

The new rules offer explicit details on how banks should address commercial loan restructuring, as was promised in mid-October by the regulators, which include the FDIC, Federal Reserve, and the Office of the Comptroller of the Currency, among others. According to the Wall Street Journal, banks in recent months have inundated the agencies with questions about commercial loan modifications as the number of problem loans has soared.

The newly issued 33-page guidance for commercial loan restructuring essentially sanctions extending troubled CRE mortgages upon maturity. Regulators said renewing and restructuring CRE loans should be consistent with safe and sound lending practices and should include a thorough analysis of the borrower’s ability to repay, overall financial condition, operational cash flow, and any market conditions that could hamper repayment potential. The guidelines include several examples of hypothetical modifications, that regulators said “illustrate a prudent workout process.”

According to a recent study by the global commercial real estate firm Jones Lang LaSalle, 55 percent of the lenders surveyed said they plan to offer borrowers one- to six-month extensions on their maturing commercial real estate loans. Forty-five percent said the biggest factor in determining loan extensions was a requirement for borrowers to pay down some of the principal, and nearly 30 percent said they have begun offering forbearances to commercial borrowers ranging from six to 12 months.

Some economists and cautionary market watchers have criticized such actions – so-called “extend and pretend” agreements – as simply delaying the inevitable commercial real estate crash. In their statement outlining loan restructurings, federal regulators warned lenders about being too lenient and only deferring recognition of ensuing losses. Nevertheless, government officials are encouraging banks to rework troubled CRE mortgages rather than foreclose – a sentiment reminiscent of the government’s push for the industry to retool problem residential mortgages.

The demise of many of the 100-plus banks to go under since the financial crisis began has been the result of portfolios with large concentrations of commercial property loans – namely troublesome construction and development loans.

FDIC data shows that commercial mortgages totaled almost $1.1 trillion at the end of June, representing 14 percent of all loans and leases, and recent projections put expected commercial real estate losses as high as $300 billion.

“Financial institutions that implement prudent loan workout arrangements after performing comprehensive reviews of borrowers’ financial conditions will not be subject to criticism for engaging in these efforts, even if the restructured loans have weaknesses that result in adverse credit classifications,” the FDIC said upon issuance of its workout guidelines.

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