Andrew Foster: Case-By-Case–Commercial Mortgage Forbearance Consideration Begins

(Andrew Foster is MBA Associate Vice President of Commercial/Multifamily Policy; he can be reached at

Andrew Foster

As mortgage lenders shift focus from production to portfolio management in response to COVID-19, industry shifts are occurring alongside the inevitable reallocation of lending operation resources.

It will take time to complete due diligence, establish plans and assemble teams to address portfolio and needs. A part of the challenge in reshaping operations is determining which issues are short-term and those that will be longer term challenges. However, several issues will clearly be significant in both the short and long term.

  1. How will the market evolve in terms of price discovery of commercial real estate assets with changing risk profiles and income streams?
  2. How will government involvement contribute to the economic recovery, both in terms of legislative developments but also regulatory constraints or increased flexibility?
  3. How will servicers fare in this historic downturn, particularly in CMBS given the challenges inherent in REMIC (real estate mortgage investment conduit) structure and complex requirements of various Pooling and Servicing Agreements? 

While the hope remains that the recession will be short-lived with a strong recovery in the second half of 2020, commercial real estate typically lags the broader economy. Any quick relief for the commercial mortgage industry will be due in part to government relief efforts. It will take patience from market participants before a clear picture of various outcomes emerges, in part because so much of the CRE finance market impacted by COVID-19 is entering into forbearance agreements. Whether mandated by the CARES Act, a regulator or arrived at as a business decision, short-term forbearance is the arrangement most immediately under consideration by many borrowers and lenders for those significantly impacted by the shutdown.

Despite forbearance being a popular short-term strategy, the implementation of loan extensions, modifications or repayment plans will have distinct differences across capital sources in terms of regulatory burdens, contract requirements and specific circumstances. Further, different property types, markets and borrowers have unique situations which make the tasks of addressing individual borrower and loan requests a case-by-case exercise. A common theme is the potential for borrowers and tenants to be in need or want of utilizing potential government programs such as the Payment Protection Program or Main Street Lending Facility.

Price Discovery: Trash or Treasure?

One significant challenge for commercial real estate markets when lending slows precipitously is price discovery. Assets derive their value in part based on a sales comparison approach, meaning value is based on comparable sales transactions for similar properties that demonstrate at what price points buyers and sellers are willing to transact in a given market. Additionally, the income approach entails a buyer evaluating a projected rate of return of their investment based on the intended use and income generated by the property. When large economic shifts occur, the bid/ask spread gap between buyers and sellers causes transactions to slow considerably.

“Price discovery in the market for commercial real estate assets can be a long process,” said Real Capital Analytics Senior Vice President Jim Costello. “There are a number of steps that buyers and potential sellers will go through before adjusting their expectations in the light of an economic shock. Deals that fail to close and a reduction in market players are leading indicators for changes in market pricing.”

Between 2016 and 2019, the Real Capital Analytics report said 0.4 percent of deals in contract failed to complete in a single month, but in March, this figure climbed to 1.3 percent. While 1.3 percent is not a huge number, the report states that it’s not just about a rise in the number of deals falling out of contract, but also about the decline in the number of closed deals. Over the past several years, there were more than 2,000 unique commercial property purchasers each month, the report said. However, there were just 790 commercial property buyers in March 2020.

MBA Vice President of Commercial Real Estate Research Jamie Woodwell explored pricing by analyzing data around another important component in pricing commercial real estate, capitalization rates. In an April blog post, Woodwell said for commercial real estate markets, a key factor in how we work through this period of uncertainty will be how investors value properties and their incomes. “Our experiences in the past two recessions may provide some insights. The chart of the week looks at unemployment rates and capitalization (cap) rate spreads, or the difference between cap rates and the 10-year Treasury. The spread is one indication of the premium an investor requires to invest their money in commercial property rather than in a risk-free government bond,” he said.

Visit the CREF Market Intelligence Blog to read more by clicking here. Stay tuned for MBA research and analysis of borrower requests and forbearance across the CRE finance industry coming soon.

Some Flexibility Provided: Federal Agencies Allow Member Banks to Postpone Appraisals for 120 Days

While price discovery poses challenges, there are additional existing issues in determining values; even having an appraiser get access to a commercial property to conduct an appraisal can prove challenging in the existing environment. In April, three federal agencies announced a rule change allowing its member banks to postpone an appraisal on a residential or commercial property for 120 days after the loan is closed. The rule, issued by The Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corp., and the Office of the Comptroller of the Currency, will remain in effect until the end of 2020.  The rule applies only to banks under these agencies’ oversight.

Fannie Mae and Freddie Mac recently issued guidance providing temporary flexibility in appraisal standards, including allowing exterior-only and desktop appraisals for certain loans. These steps represent progress for both banks and agency lenders; however, no such relief has been provided to CMBS market participants who are governed by not only loan documents but also pooling and servicing agreements.

CMBS Borrower Request Spike                                                                                             

While CMBS is not covered by the agency forbearance and appraisal requirements, the same economic pressures are being felt by borrowers. CMBS market share of the CRE financing market is approximately 20 percent compared to more than 40 percent heading into the last downturn. The high concentration of retail and lodging properties and make this financing source a key area to watch

Given the widespread market expectation of a large number of borrower requests, the Commercial Real Estate Finance Council published a borrower guide to share best practices when submitting requests for relief due to circumstances brought about by COVID-19 impacts.  First, required loan payments should continue to be made to the extent possible.  Second, requests for relief must be reasonable and fit the circumstances of the property, loan structure, and borrower, as well as meet the credit requirements of the lender and the terms of the Pooling and Servicing Agreement for the specific CMBS trust. 

Further, much industry discussion has centered around investor reporting best practices in the current market environment. These developments are positive and with history as a guide, servicers and bondholders like all market participants must approach this crisis with flexibility and humility. The situation presents a significant series of challenges given the complexities of CMBS structures and recent memories of the aftermath of the great financial crisis.

The brokerage community will be watching closely and learning about borrower experiences without much of a filter across the commercial real estate marketplace. CMBS servicers, like others, fully appreciate the gravity of the situation and want to work with borrowers to do the right thing–which must involve analyzing each situation on a case-by-case basis. As such, they’ve participated in numerous joint calls set up between servicers, MBA, CREFC and trade associations representing the borrowing community including International Council of Shopping Center, National Apartment Association, America Hotel and Lodging Association and National Association of Homebuilders. These calls were set up to clearly explain to borrowers how to effectively work with servicers when challenges arise.

The potential challenges in CMBS must be solved by borrowers and lenders working together and there are no silver bullets here; however, it is important to note that the challenges are not limited to hotels and retail nor CMBS.

The End of the Beginning: We’re All in This Together

It is crucial to acknowledge that the impacts of this crisis are in the early stages. The marketplace’s ability to understand and underwrite many of the implications for tenants, landlord and lenders are in the early stages as well–it has only been a little over a month since the country effectively shut down numerous parts of the economy. Servicers need time to process large numbers of requests.  Servicers understand the unprecedented nature of what is happening in the economy and intend to work with borrowers to provide relief where appropriate across capital sources; however, they will do so in accordance with loan documents and for CMBS, the pooling and servicing agreements that govern the actions they must take on behalf of the trusts they represent.

MBA will continue to deliver this message to Capitol Hill and to all stakeholders. As the voice of real estate finance, we are a strong industry advocate for our members across single-family, multifamily and commercial real estate finance. All capital sources contribute to the stability and liquidity of commercial real estate finance markets and each part is an important part of the whole. MBA’s research, expertise and advocacy will continue to help message the real estate finance industry’s narrative to help ensure stable, liquid and properly functioning finance markets.