The financial and mortgage crisis of 2008 created what we all know as the credit Ice Age. Losses were so severe that the Obama Administration created a $700 billion bailout throwing a financial TARP over the big banks to protect them from a rain of failure. It worked, if only temporarily. Yet the residential real estate crisis was only the first storm in this beleaguered industry. The second and potentially more ominous front lay with commercial real estate.
The $3.5 trillion commercial real estate market experienced a 40% value decline from its peak, according to the MIT Center for Real Estate – a devastating decline if you remember that commercial loans are very different than residential loans. Where residential loans are long term agreements, commercial loans are designed to be periodically refinanced – to “come due” and be refinanced to preserve their “performance”. This enables the real estate owner to adjust his debt service to his cash flows and keep an asset financially stable. With plummeting property values, unemployment, skyrocketing commercial vacancies, and underwater financing all blanketing the commercial real estate ecosphere, the necessary act of refinancing become critical. Yet many lenders willing to help were handcuffed by an obscure tax provision that imposed a 100% tax penalty and potential loss of tax-exempt status on lenders who restructured loans before the borrower was facing loan default and foreclosure. Property owners holding performing loans who were up to date on paying their mortgage — but still needed to refinance in the face of declining rents and rising vacancies — couldn’t initiate loan restructuring or modification talks with lenders. Only those owners entering default or imminent threat of default could negotiate with servicers.
Enter Internal Revenue Procedure 2009-45 to thaw the credit iceberg. RP 2009-45, issued last week by the IRS and Treasury, broadens the definition of “imminent default”; extends the time frame for loan modifications and empowers special servicers to reduce the interest rate or extend the term of securitized loans held in real estate mortgage investment conduits.* Now special servicers can reduce the interest rate or extend the term of securitized loans held in real estate mortgage investment conduits (REMICs) and investment trusts at any time without risk of onerous taxation. Thanks to the noble thawing power of RP 2009-45, borrowers with distressed assets or onerous loan terms can get help earlier in the game. …more importantly, before it’s too late.
*REMIC (real estate mortgage investment conduits and trusts) are vehicles are used to pool mortgages and mortgage-backed securities – all of which can be accounted for as a sale of assets and removed from an originating lender’s balance sheet, exempting the trust from federal taxes.