The coronavirus disease (COVID-19) has created disruption in cash flows across a wide range of commercial real estate assets that has resulted in property owners requesting forbearance or other modification relief with respect to their loans. In most existing securitizations, a COVID-19 request was not specifically contemplated in the securitization servicing agreement and such requests are being processed as loan modifications, generally triggering a transfer to special servicing and triggering payment of special servicing fees. For new issuance securitizations, many depositors are including specific provisions related to such COVID-19 forbearance requests to exclude them from the ambit of “Major Decisions,” “Servicing Transfer Events” and “Appraisal Reduction Events” and/or to cap and limit a borrower’s liability for costs and expenses relating to the relief request. This alert highlights a few approaches to COVID-19 forbearance requests in newly issued securitizations, including a borrower eligibility for a forbearance, key practice pointers for forbearance relief and a short summary of the implications of treating COVID-19 requests as falling outside the realm of “Major Decisions” and “Servicing Transfer Events” and having these requests processed and closed by a master servicer in lieu of a special servicer.
Borrower eligibility for a COVID-19 forbearance request
For new issuance securitizations where the depositor has decided to incorporate specific COVID-19 forbearance request provisions, the depositor has typically narrowly defined the nature of such requests that qualify for processing by the master servicer. Generally, a borrower must satisfy criteria establishing that it is an eligible borrower and that the need for forbearance relates to a financial hardship that was directly or indirectly caused by the national emergency that was declared by the President on March 13, 2020. In addition, the nature of the relief that may be granted due to a COVID-19 emergency generally is more limited than the broad discretion that is granted to a special servicer in connection with a typical or ‘full’ loan modification. Examples of such limitations include restricting the master servicer to granting a maximum period for the forbearance (usually three months, but no longer than the six months currently permitted under the REMIC guidance), specifically limiting the nature of relief to permit only the use of reserve and escrow accounts as a source of debt service payments and specifying a maximum period for repayment of forborne sums or reserves.
In addition to the narrower parameters for a COVID-19 forbearance request, a borrower will be required to meet certain general requirements such as the absence of any other event of default under the loan and that the borrower had not previously been granted a forbearance. Further, there is typically a date stated by which the borrower must submit and/or close a COVID-19 forbearance request so as not to leave the timing open ended, and the documentation utilized to close such requests is typically a standard form, in lieu of specifically negotiated.
A major goal in including specific COVID-19 forbearance provisions is to streamline the processing of an eligible borrower request and reduce the costs of any such request. Thus COVID-19 forbearance requests generally will be excluded from constituting a “Major Decision,” “Servicing Transfer Event” and “Appraisal Reduction Event”. These changes effectively allow the master servicer to directly process a COVID-19 forbearance request, without the approval of additional servicer or junior certificateholder consents and the costs attendant thereto, once the master servicer determines that a borrower meets the applicable eligibility requirements.
Key practice pointers in processing a COVID-19 forbearance relief request
There are various practice pointers that a master servicer should consider when processing a COVID-19 forbearance request. First, the master servicer should obtain a certification from the borrower that it meets all of the requirements to be considered for the COVID-19 forbearance. This certification should include a statement of how the borrower meets the financial hardship requirement along with copies of the applicable supporting documentation. Any forbearance or modification agreement should also specifically provide for full recourse liability to the borrower for any false or misleading statement in the borrower certification.
Second, the master servicer should cross check and confirm that any relief granted to the borrower is specifically within the authorized parameters granted to the master servicer. One example of a possible mismatch would be if the master servicer is only permitted to grant a three month forbearance, but the actual forbearance agreement provides for a three month forbearance period plus the potential for a further extension.
Third, when processing a request that allows for deferment of payment or use of any reserves that were diverted for debt service payments, consideration needs to be made as to the time period for repayment or replenishment. This time period should take into account the maturity of the loan, feasibility of future cash flows, and projected timing for use of the reserve accounts. Any time period for repayment or replenishment should be specifically stated in the forbearance or modification agreement.
Finally, any forbearance or modification agreement should specifically state that any other defaults or events of default that occur (outside of what is specifically permitted in the forbearance of modification agreement) would render the loan ineligible to continue to benefit from the streamlined COVID-19 forbearance provisions and would result in the loan being subject to the customary servicing transfer, default and appraisal provisions in the servicing agreement. While the above items are some helpful practice pointers when considering a COVID-19 forbearance relief request, the facts and circumstances of each request should be fully evaluated in processing the request.
Implications of shifting the processing of a COVID-19 forbearance request to the master servicer
By including specific COVID-19 forbearance language in a new issuance and shifting the processing of a forbearance request for an eligible borrower to the master servicer, many depositors are seeking to provide quicker relief at lower cost for borrowers impacted by COVID-19. Under a securitization that does not incorporate COVID-19 forbearance language, related requests are being processed as loan modifications. This generally requires a transfer of the loan to special servicing, with the potential for additional approval rights of other deal parties, such as controlling holders, and resulting time delays. Additionally, the special servicing fees that become due and payable upon a transfer to special servicing, together with uncapped modification fees that may be charged by special servicers and charged as a trust fund expense, result in uncertainty for investors as to yield and create pricing pressures for new deals; the specialized COVID-19 forbearance provisions are designed to mitigate these risks.
In contrast, by incorporating the COVID-19 forbearance language described in this alert, new issuances may permit the master servicer to process the request directly. This has the potential to avoid any transfer to the special servicer and the related special servicing fees, while also reducing the processing time from the borrower because there are no additional approval steps required beyond the master servicer. Additionally, new issuance securitizations are seeking to cap or completely eliminate any consent fees paid to the master servicer and/or exclude such fees from being obligations of the securitization trust fund.
One final item to note, the COVID-19 forbearance language that is being incorporated into new issuance securitizations would not prevent a specialized COVID-19 request from being transferred to the special servicer if it did not satisfy the borrower eligibility criteria and/or narrowly defined scope of relief authorized to be granted by the master servicer. In such an instance the request would be processed as a modification, similar to if there were no COVID-19 forbearance language included in the transaction.
Conclusion
Due to the prevalence of COVID-19 forbearance requests – and the related economic risk in new deal structures that has created pricing pressures from investors – depositors are incorporating specific COVID-19 servicing provisions into new issuance deal structures. These new provisions, designed to reduce costs to investors and borrowers and to expedite processing mark a material departure from processes in place for customary loan modifications. This alert has highlighted some of the key aspects of COVID-19 forbearance provisions that are being included as part of new deal structures.
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