commercial mortgage modifications: lien priority, title insurance...

Commercial Mortgage Modifications: Lien Priority, Title Insurance and Bankruptcy Issues

A idi L l Pitf ll Wh C fti M difi ti A tpresents Avoiding Legal Pitfalls When Crafting Modification Agreementspresents

A Live 90-Minute Teleconference/Webinar with Interactive Q&AToday's panel features:

David A. Barksdale, Partner, Ballard Spahr, Los AngelesEric E. Johnson, Partner, Holme Roberts & Owen, Denver

Ren R. Hayhurst, Partner, Bryan Cave, Irvine, Calif.

Tuesday, April 20, 2010

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Mortgage Modifications: Lien Priority Title Lien Priority, Title Insurance and Bankruptcy IssuesIssuesCommon Loan Modifications

David A. BarksdaleBallard Spahr LLP, Los Angeles, [email protected]@ p424.204.4322

Common Loan Modifications

• Loan Terms Commonly Modified y- Maturity date

- Principal balance

- Interest rate

- Payment schedules and amounts

- Security/collateral

2


• Preliminary issuesy- Step 1: Determining the underlying causes

• The lender and borrower must agree on the cause

• Is the default due to factors beyond the borrower’s control or due to the borrowers?

- If beyond the borrower’s control it may be worthwhile to- If beyond the borrower s control, it may be worthwhile to work with the borrower

- If fault lies with the borrower, leaving the borrower in control may not be an optionmay not be an option

3


• Preliminary issues (continued)y ( )- Step 2: Assessing the value of the collateral

• Evaluating the physical condition

• Obtaining an appraisal/broker’s opinion of value (BOV)

• Is the loan over secured or under secured?

- Under secured – realistic expectation of recovery if exercise remedies

- Over secured – increases risk of a cram-down in bankruptcy

4


• Preliminary issues (continued)y ( )- Step 3: Evaluating the problems associated with the exercise of

remedies• Mortgagee-in-possession

• Mechanic’s, judgment, tax or other liens

• Feasibility of operation by the lender• Feasibility of operation by the lender

• Environmental issues

• Likelihood of success of modification

5


• Preliminary issues (continued)y ( )- Step 4: Engaging the borrower to look at the issue from the

lender’s perspective• Motivating the borrower to be part of the solution

• Encouraging the borrower develop a proposal based upon:

Ability to continue to pay debt service- Ability to continue to pay debt service

- Ability to fund reserves for tenant improvements, leasing commissions and maintenance

- Ability to satisfy of a portion of the outstanding principal

- Likelihood of payment of the loan balance at the existing or extended maturity date

6

y



lender’s perspective (continued)• The borrower should provide:

- Estimate of current market value

Updated operating statement rent roll and financial statements- Updated operating statement, rent roll and financial statements

- Leasing and management plan, including analysis of potential operational savings (without impairing revenues)

- Special considerations – loss of major tenant or tenant bankruptcy

7



lender’s perspective (continued)• What won’t work:

- Cessation of payments by the borrower, especially where the property is generating positive cash flow

- Lack of communication/response from the borrower

- Unsupported requests for a write-down of the outstanding principal balanceprincipal balance

- Unrealistic expectations

8


• Extending the maturity dateg y- Maturity default

• Extending the maturity date may be a desirable option so long as h b i k hl ithe borrower continues to make monthly interest payments

• Additional terms for consideration:

- Increased interest rate (immediate or delayed)- Increased interest rate (immediate or delayed)

- Payment of fees/points

- Additional security

9


• Extending the maturity date (continued)g y ( )- Payment default

• Interest-only loans/interest-only periods

• Default in scheduled monthly principal and interest payments

• Extension of the maturity date may not be the best solution because the issue is likely cash-flow driven – other solutions like short-the issue is likely cash-flow driven other solutions, like short-term reduction in payments, may be more desirable

10


• Changing or removing extension optionsg g g p- The borrower’s default may have eliminated any extension terms

originally granted in the loan documents

- The completion by borrower of benchmarks upon which extension options may be reinstated

- Additional options may be added to allow for future extensionsAdditional options may be added to allow for future extensions upon the payment of a pre-determined fee

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• Adjusting the loan amountj g- Reliable valuation and income projections required

- Lenders are resistant to write down the principal balance

- Bifurcating the loan – A/B Note structures

12


• Obligatory v. optional advancesg y p- Full or partial loss of priority

- Effect on existing intercreditor agreements and junior liens

- Equitable subrogation considerations

13


• Interest rate adjustments/bifurcation of the interest ratej- Permanent or short-term

- Adjustable or fixed

- Increased principal payments

- Payment of fees/points

- Additional security

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• Modifying payment provisionsy g p y p- Reduction of monthly debt payments or complete forbearance

- Most useful where the project is currently generating insufficient cash flow, but an upturn is anticipated

- Reduced payment terms should operate for a limited period of time the original (or better) loan terms should then be reinstatedtime, the original (or better) loan terms should then be reinstated

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• Modifying payment provisions (continued)y g p y p ( )- The lender can offset reduced payments by:

• Providing for a proportionate increase in the interest rate at the end h d d i dof the reduced payment period

• Negatively amortize the loan on a monthly basis in the amount by which the original payments exceed the reduced payments

• Requiring additional security

• Taking an equity position in the property

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• Changing, adding or releasing collateral securing the loang g, g g g- Adding new guarantors

- Requiring guarantors to provide collateral to secure their obligations

- Releasing of portions of the collateral (pad sites) for sale to tenants and using the proceeds to pay down the loantenants and using the proceeds to pay down the loan

- Additional collateral – if available

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David A. BarksdaleBallard Spahr LLPBallard Spahr LLP

2029 Century Park East, Suite 800 Los Angeles, California 90067

424 204 4322 Direct424.204.4322 Direct 866.254.2297 Facsimile

[email protected] | www.ballardspahr.com

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COMMERCIAL MORTGAGE MODIFICATIONS: LIEN PRIORITY, TITLE INSURANCE AND BANKRUPTCY ISSUES

Legal Considerations and Risks With Modifications

April 20, 2010

Eric E. JohnsonHolme Roberts & Owen LLP

1700 Lincoln Street, Suite 4100Denver CO 80203Denver, CO 80203

[email protected]. 303-866-0657

www.hro.com

Denver │ Boulder │ Colorado Springs│ Dublin │ London │Los Angeles │ Munich │ Phoenix │ Salt Lake City │ San Francisco

Four Types of Bankruptcy Risks in Commercial Mortgage Transactions

Preference Claims

Fraudulent Transfers

Failure to Record or Perfect Liens

Equitable Subordination

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Preference ClaimsPreferential Transfers. Concept: one pre-existing creditor is preferred over Concept: one pre existing creditor is preferred over

others, who get nothing. Violates the key bankruptcy principle of pro rata

distribution among creditorsdistribution among creditors. Applies to any transfer of an interest in property by

the debtor, including grants of liens and payments. Remedy: avoid the transfer and bring the preferential

transfer back into the bankruptcy estate to shareequally with all creditors.q y

Bright lines for liability: Payment or transfer on account of pre-existing debt. Withi 90 d ( ll ) (f t f t Within 90 days (generally) or one year (for transfers to

insiders) before bankruptcy.

3

Preference ClaimsPreferential Transfers. Transfers of property that may be avoided includep p y y

grant of a lien and transfer of deed. Transfer on account of “new value” is not a

preference but “new value” doesn’t includepreference, but new value doesn t includesubstitution of a new obligation for an old obligation:must be new “money’s worth.”

Payment of an old lien through a new lien from a new Payment of an old lien through a new lien from a newlender is new value, so a properly-documentedrefinance is not preferential.

M t f t ithi 30 d f f di f ti Must perfect within 30 days of funding for entiretransaction to be contemporaneous exchange fornew value, and not a transfer on account of a pre-

i ti d btexisting debt.

4

Scenarios Where Preference Issues Arise

Lien for formerly unsecured (or undersecured) debt.

New lien on additional collateral for old debt New lien on additional collateral for old debt.

Deed in partial payment of old debt.

An pa ment or transfer of propert on acco nt of Any payment or transfer of property on account ofunsecured debt.

Gain protection by getting collateral in exchange for Gain protection by getting collateral in exchange fornew value, getting collateral up-front and perfectingpromptly upon closing.

5

Fraudulent TransfersFraudulent Transfers: Did the Debtor Receive Reasonably Equivalent Value in Exchange for y q gGranting a Lien or Transferring Assets? Two types of fraudulent transfers.

Intentional Fraud: intent to hinder, delay or defraud creditors.

Constructive fraud: debtor’s insolvency or undercapitalization plus lack of reasonably equivalent value in exchangeplus lack of reasonably equivalent value in exchange.

– Depends entirely on valuation evidence of: (a) Debtor’s solvency; (b) property transferred; (c) property received in exchange.

R d i t llif (“ id”) th t f d k Remedy is to nullify (“avoid”) the transfer and makethe transferee disgorge or pay twice.

6

Fraudulent TransfersWhat is Insolvency? Balance Sheet Test Balance Sheet Test.

Fair value of all property rights vs. liabilities at a snapshot in time.

Fair value is not GAAP book value.

Includes fair value of contingent liabilities (like guaranties or pending litigation)pending litigation).

Equitable Insolvency. Inability to pay debts as they mature out of cash flow and Inability to pay debts as they mature out of cash flow and

assets. Creates presumption of insolvency.

7

Fraudulent TransfersTransferee Defenses to Fraudulent Transfer Claims.Claims. Transferee can retain value to the extent it:

Gave value; Gave value;

In good faith.

No “good faith” if transferee knew or should havegknown of transferor’s insolvency or bad intent.

No good faith = no reduction in liability for what’ l d id th d bt t iyou’ve already paid the debtor - - pay twice.

Due diligence is a two-edged sword in distressed-asset transactionsasset transactions.

8

Scenarios Where Fraudulent Transfer Issues Arise

Upstream or cross-stream guaranties, and supportingdeed of trust.

Any scenario where deed of trust grantor is notreceiving ultimate benefit of loan. For example, dividend capitalization, acquisition

financing or LBO.

Deed in lieu of foreclosure Deed in lieu of foreclosure.

Gain protection by due diligence regarding solvency,appraisals of property transferred and covenants orappraisals of property transferred and covenants orescrows regarding use of proceeds to pay creditors.

9

Failure to Record or Perfect Liens Debtor-in-possession or trustee may avoid

unperfected liens under the “strong-arm” power in § 544(a)(3) of Bankruptcy Code.

Trustee has rights of a hypothetical bona fidepurchaser of real property from debtor as of thepurchaser of real property from debtor, as of the moment a bankruptcy case is filed.

If a hypothetical BFP could obtain real property freed l f h ll d l t tand clear of a challenged real estate conveyance,

then that conveyance can be avoided for the benefitof debtor’s creditors.

Depends on state real property recording statutes. Evaluated without regard to actual knowledge or

ti f t t DIPnotice of trustee or DIP.

10

Failure to Record or Perfect Liens As of the moment bankruptcy is filed, consequences

of proper recording are “all or nothing.”p p g g

Automatic stay prevents any later recording ofdocuments affecting debtor’s property.

Any errors or omissions can’t be corrected post-bankruptcy.

11

Failure to Record or Perfect LiensIn re Taylor, 422 B.R. 270 (Bankr. D. Colo., 12/3/09) 18 months after deed of trust, at 3:25 p.m., lender recorded , p ,

amended DOT correcting wrong Block No. in legal description.

Problem: Debtor filed bankruptcy earlier at 12:09 p.m., and later sued to avoid deed of trustsued to avoid deed of trust.

Legal description in deed of trust contained correct street address and tax parcel ID number.

Court held that correct address and tax ID were enough to place any subsequent purchaser on inquiry notice, sufficient to protect the lender from a subsequent BFP.

Colorado cases hold wrong township number or other inaccuracy in legal description, without other correct information, will not protect against a later BFP.

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Equitable Subordination ClaimsLooks to inequitable behavior that takes improper

advantage of other creditors. “[C]ourts seek to remedy g [ ] ysome inequity or unfairness perpetrated against the bankrupt entity’s other creditors or investors by postponing the subordinated creditor’s right topostponing the subordinated creditor s right to repayment until others’ claims have been satisfied.” In re Hedged Investments Assoc., Inc., 380 F.3d 1292 (10th Ci 2004)(10th Cir. 2004).

Depends chiefly on inequitable conduct by a creditor, usually during the debtor’s wind down phase that givesusually during the debtor s wind-down phase, that gives the challenged creditor an advantage over or harms other creditors.

13

Equitable Subordination Claims Inequitable conduct usually encompasses (i) fraud,

illegality and breach of fiduciary duties; (ii) deliberate g y y ; ( )undercapitalization of the debtor; or (iii) creditor’s use of the debtor as a mere instrumentality or alter ego for its own purposes Hedged Investments 380 F 3d at 1301own purposes. Hedged Investments, 380 F.3d at 1301.

The greater the insider relationship between the creditor and debtor, the lower the bar of “inequitable , qconduct” will be for the court to equitably subordinate the creditor’s claim.

14

Equitable Subordination Claims

Court has great discretion to “do equity” bysubordinating a claim below some or all secured orgunsecured creditors.

A first-priority lien can wind up being treated like equityand getting nothing.

15

Scenarios Where Equitable Subordination Claims Arise

Acquisition debt that the target can’t pay (as in LBOs).

Large loans beyond the debtor’s ability to pay (with Large loans beyond the debtor s ability to pay (with“smoking gun” emails!).

Exorbitant fees that shock the court’s conscience. Exorbitant fees that shock the court s conscience.

Lender is making, assisting in or ratifyingmisrepresentations to other creditors, to induce themto extend credit to debtor’s insolvent business.

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Title Insurance: Creditors’ Rights Exception

Summarize creditors’ rights coverage.

Brief history of creditors’ rights coverage in the title Brief history of creditors rights coverage in the titleinsurance industry.

New rules and regulations. New rules and regulations.

New responsibilities and risks.

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Scope of Creditors’ Rights Exception

Excludes from Title Insurance Coverage: Loss or damage arising out of any claim Loss or damage arising out of any claim.

Which arises out of the transaction creating the interestof the insured lender or owner.of the insured lender or owner.

By reason of federal bankruptcy or state insolvency, orsimilar creditors’ rights laws.

Based on: Fraudulent transfers under state law or the Bankruptcy Code.

Preferential transfers under the Bankruptcy Code.

Equitable subordination under the Bankruptcy Code.

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Scope of Creditors’ Rights Exception

Exception Applies to: Lender as lender under deed of trust Lender as lender, under deed of trust.

Lender as owner, under deed.

Exception Covers Claims That: Avoid, or invalidate, deed of trust or deed.

Subordinate lender’s lien to secured or unsecuredcreditors.

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History of Policy Coverage

1970: ALTA loan policy contains no creditors’ rightsexclusion.

1990: Addition of the exclusion for creditors’ rights.

1992: Modification to the exclusion for creditors’ 1992: Modification to the exclusion for creditorsrights: Coverage still available for allegation the insured transaction is

f ti l t f d ta preferential transfer due to:– failure of the title company to timely record the insured document.

– failure of the document to impart constructive notice to appurchaser for value or a judgment or lien creditor.

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Coverage: Basic 1992 ALTA Loan Policy

Insured transaction: No coverage for post-policy challenges to the validity No coverage for post policy challenges to the validity,

enforceability, or priority of the lien of the insured mortgage arising solely out of the insured transaction (not one in the past chain of title), for claims that the insured transaction is:),

– Deemed a fraudulent transfer or conveyance.

– Loss of priority based on equitable subordination.

– A preferential transfer, under either state or federal law.

21

Coverage: Basic 1992 ALTA Loan Policy

Insured transaction: exception to preferential transfer exclusion … the transaction creating the interest of the ginsured mortgagee being deemed a preferential transfer except where the preferential transfer results from the failure:failure:

(i) to timely record the instrument of transfer; or

(ii) of such transfer to impart notice to a purchaser( ) p pfor value or judgment or lien creditor.

22

Scope of Creditors’ Rights Coverage

Creditors’ rights claims in “up-chain” transactions: B th th 1990 dit ’ i ht l i d th 1992 Both the 1990 creditors’ rights exclusion and the 1992

modification exclude coverage only with respect toclaims arising out of the specific transaction in whichg pthe insured buyer or lender acquires its interest.

The exclusion does not exclude coverage forf d l t f ti l t f i i i ifraudulent or preferential transfers arising in priortransactions.

23

Scope of Creditors’ Rights Coverage

2006 ALTA loan policy retained the traditionalexception from the exclusion.p Covered risk allows coverage for loss or damage upon

determination that insured transaction is a preferential transfer due to the failure to timely record or the failure of the insureddue to the failure to timely record or the failure of the insured document to impart constructive notice to a purchaser for value, judgment or lien creditor.

Excludes any other basis for a preferential transfer claim Excludes any other basis for a preferential transfer claim.

No coverage for fraudulent transfer claims or equitable subordination claims in the insured transaction.

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Creditors’ Rights Coverage: New Rules and Regulatory Changes

Before: some basis for negotiation with title insurers toretain creditors’ rights coverage or use 1970 ALTAg gform.

Now: 2/10, major title insurers announce they will nolonger offer creditors’ rights coverage in any form.

Other title insurers announce they may “consider”creditors’ rights coverage (where not prohibited) increditors rights coverage (where not prohibited) inextraordinary cases on a case-by-case basis.

25

Creditors’ Rights Coverage: New Rules and Regulatory Changes State insurance regulators now prohibit title insurers

from providing creditors’ rights coverage: Florida New Mexico Texas Texas Pennsylvania Oregon Delaware and New Jersey expected to follow soon

2/10: California Land Title Association decertified itsform of creditors’ rights endorsementform of creditors rights endorsement. California Department of Insurance hasn’t yet prohibited

creditors’ rights coverage by regulation (but if the endorsement isn’t certified by CLTA )isn t certified by CLTA….)

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Creditors’ Rights Coverage: New Rules and Regulatory Changes

3/8/10: American Land Title Association decertified anycreditors’ rights endorsement.g

All actions to decertify or prohibit creditors’ rightscoverage coincides with economic downturnaffecting real estate values and real estate financingtransactions (and defaults) – and the dramatic rise inbusiness bankruptcies and risks to lenders. p

27

Creditors’ Rights Coverage: When Should You be Concerned?

A lender is granted a lien or deed of trust on realproperty.p p y

A lender forecloses on its lien or accepts a deed in lieuof foreclosure.

There is a potential distressed sale or other transfer ofan interest or lien in property for less than reasonablyequivalent value being given in exchange to the sellerequivalent value being given in exchange to the selleror borrower.

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When mortgage funds are being used for any purposeother than the purchase of the encumbered real estate,p ,such as: to acquire the stock of another company (leveraged buy out).

to make distributions to an insider, partner or affiliate.

or to pay the debt of an entity other than the borrower.

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Mortgaging a debtor’s property on account ofantecedent debt owed to the lender or anothercreditor.

A mortgage to support an upstream (parent support)or cross stream (affiliate s pport) g arantor cross-stream (affiliate support) guaranty.

The granting or substitution of new or additionalsecurity in order to delay or avoid foreclosure or toy yprevent the exercise of other creditor remedies by thecreditor.

30

Creditors’ Rights Coverage: Due Diligence Focus

What is the purpose of the loan?

Where is the value going? Where is the value going?

Who is obligated to repay? Is there cross-collateralization to other obligations of Is there cross collateralization to other obligations of

borrower or affiliates? What is the relationship between the obligation incurred and

value received by obligor?value received by obligor?

Who is solvent here? What is the current value of prior and new collateral, and is

th MAI i l i t?there an MAI appraisal in support? What is the current status of the debt and correct value of

any collateral? Undersecured or oversecured?

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Due Diligence Pre-Closing Audit of Borrower’s or Grantor’s Books

and Records

Leases, Licenses and Key Agreements Service and Maintenance Agreements, Equipment

LeasesLeases

Bank Records

Management and Affiliate Agreements

Brokerage and Commission Agreements

UCC, Tax Lien, Litigation and Judgment Searches

32

Priority Issues and Intercreditor Agreements

Bankruptcy Code § 510(a): “A subordination agreement is enforceable in a [bankruptcy] case under this title to the same extent that such agreement is enforceable under applicable nonbankruptcy law.” Key is state law not bankruptcy law (generally) in Key is state law, not bankruptcy law (generally), in

determining enforceability of a subordination agreement. Two types of subordination:

– Claim subordination: junior creditor agrees to turn over to seniorcreditor all amounts received on the claim until senior is satisfied.

– Lien subordination: senior creditor has prior rights to all collateralcollateral.

Usually, in real estate transactions, only lien subordination isat issue.

33


Common (standard) intercreditor agreement provisions. Subordination of claims and liens (obviously). Agreement not to challenge senior liens and priorities,

including maintenance of priorities even if senior liensare successfully challenged by debtor or third-parties.

Junior lenders subject to payment block and must Junior lenders subject to payment block and mustturnover all recoveries following senior default or untilseniors paid in full.

Junior lenders subject to remedies standstill followingborrower default.

34


Common (standard) intercreditor agreement provisions – (continued). Limited consent by junior lenders to potential changes

in senior loan terms, while junior lenders agree not tochange junior loan documentschange junior loan documents.

Consent by junior lenders to asset sales by seniorcreditors and release of junior liens on collateralreleased by senior lenders to facilitate asset sales.

Junior lenders waive marshalling, subrogation andother rights against senior lenders and borrower untilother rights against senior lenders and borrower untilsenior financing repaid.

35


Battleground terms in intercreditor agreements. Time period for standstill on junior lenders’ exercise of Time period for standstill on junior lenders exercise of

remedies following default (usually between 60-180days, compromise on 120 days).

C i f fi t li t i th d if Capping of first lien amount - - is there a cap, and if so,how much? Is the senior lender able to increase thecap, and under what circumstances?

Ability of senior lenders to provide post-bankruptcyfinancing, and whether such financing may receive asuper-priority in bankruptcy - - i e how much additionalsuper priority in bankruptcy i.e, how much additionaldebt and how many tranches will junior lenders bebehind?

36


Battleground terms in intercreditor agreements –(continued). Ability of senior lenders to change pricing or other

terms of senior debt, including extracting more feesfrom debtorfrom debtor.

Options: “call” by junior lenders or “put” by seniorlenders, allowing or requiring junior lenders to buysenior loan at par/collateral value/market value (usualterms are par, potentially providing senior lenders withleverage or a windfall if declining collateral value putsg g pjunior lenders with no collateral value.

37

Priority Issues and Intercreditor Agreements Right to modify loan and deed of trust should be

specifically listed in subordination agreement, thoughjunior creditor may resist especially additionsjunior creditor may resist, especially additionsto senior loan.

Refinancing issues: does subordination apply tog pp yassignees, refinancers, etc.?

Also spell out right to take additional collateral orrelease collateralrelease collateral.

Treat junior creditor under subordination agreementlike a guarantor, in terms of giving notices, gettingg g g g gconsents, unless clear waivers in subordinationagreement.

38


Many courts hold that intercreditor agreement provisions, unrelated to lien priority, purporting to deprive junior creditors of substantive and procedural rights increditors of substantive and procedural rights in bankruptcy proceedings are unenforceable. See, e.g., In re New World Pasta Co., 2004 WL 1484987 (Bankr. M.D. Pa June 4 2004) Such unenforceable provisions mayPa. June 4, 2004). Such unenforceable provisions may include: Waivers of rights to object to DIP financing.g j g

Junior lenders’ waiver of their right to vote on a plan of reorganization.

Waiver of right to seek relief from the automatic stay or of Waiver of right to seek relief from the automatic stay or ofadequate protection for collateral rights in the event of continuationof the stay.

Waiver of rights to object to an asset sale or to a plan of Waiver of rights to object to an asset sale or to a plan ofreorganization proposed or supported by senior lenders.

39


(continued).. Junior lenders’ waiver of their right to offer DIP financing ong g

financial terms more favorable to the debtor than those offered bysenior lenders.

Waiver of the right to challenge or object to the senior lenders’g g jclaims, or to assert some defect in perfection of senior liens.

Waiver of junior creditors’ right to propose or support a plan ofreorganization different from or in conflict with senior lenders’ plan. g p

40


But see In re Aerosol Packaging, LLC, 362 B.R. 43 (Bankr. N.D. Ga. 2006) Court upheld junior creditor’s assignment to senior creditor, in

subordination agreement, of junior’s right to vote on debtor’sbankruptcy plan.

Court ruled that plain language of subordination agreementconstituted an assignment of junior’s voting rights, valid understate law.

If junior wanted relief, it could pay senior’s claim in full.

41

COMMERCIAL MORTGAGE MODIFICATIONS: LIEN PRIORITY, TITLE INSURANCE AND BANKRUPTCY ISSUES

Legal Considerations and Risks With Modifications

April 20, 2010

Eric E. JohnsonHolme Roberts & Owen LLP

1700 Lincoln Street, Suite 4100Denver CO 80203Denver, CO 80203

[email protected]. 303-866-0657

www.hro.com

Denver │ Boulder │ Colorado Springs│ Dublin │ London │Los Angeles │ Munich │ Phoenix │ Salt Lake City │ San Francisco

Mortgage Modifications: Lien Priority Title Insurance andPriority, Title Insurance and

Bankruptcy IssuesApril 20, 2010

Ren Hayhurst (Irvine CA)Ren Hayhurst (Irvine,CA)[email protected]; 949-223-7125

Overview of Documentation Strategies g• Develop A Strategy

– Modification vs. ForbearanceModification vs. Forbearance

• Highlights of Loan Modification vs. Forbearance Approach– When to Select Each Option– Documentation Approaches– Title Requirements and Protections

2

Differences Between Modification and Forbearance• Key Elements of Modifications

Involves Changing The Terms Of A Performing or Non– Involves Changing The Terms Of A Performing or Non-Performing Loan To A Loan That Will Remain or That Will Become a Performing Loan After The ModificationEssential Elements Include:– Essential Elements Include:

• Identifying the Required Documents• Interplay With Third Parties

Titl R i t• Title Requirements

3

Differences Between Modification and Forbearance (Part 2)( )• Key Elements of Forbearance

Involves Taking A Non Performing Loan And Working To An– Involves Taking A Non-Performing Loan And Working To An Agreed-upon Exit Strategy While Keeping The Loan In Default

– Essential Elements Include: Id tif i th R i d D t• Identifying the Required Documents

• Identifying Any Continuing Lender Obligations• Interplay With Third Parties

Titl R i t• Title Requirements

4

Basic Elements Of A Modification

• Beyond the Deal Terms– Conduct A Loan Tune-Up

• Review Changes In The Law• Clean Up Ambiguities In The Documents• Close Gaps In The Documentation

– Determine Whether A Recordable Mortgage Amendment Is Required

• Legal Requirement – Any Modification of Terms Relevant to J i Li H ld R i C f l R iJunior Lien Holders Requires Careful Review

• Beware of Indirect Impacts

5

Recordable Amendments

• Examples Of Modifications– Extension Only – No Amendment Need Be Recorded, But

C Still G t Titl C (CLTA 110 5E)Can Still Get Title Coverage (CLTA 110.5E)– Amendments To The Deal Terms

• Changes In Loan Terms That Increase Or Materially Alter The Obli ti Of Th B O A i t Th P t Sh ldObligations Of The Borrower Or Against The Property Should Be Noticed By Amendment and Insured

– Examples – Interest Rate Increase; Payment Terms Altered; Changes to Partial Release Requirementsg q

– What About Changes In Financial Covenants? Reporting Requirements? Beware of the Title Company’s “Act of the Insured Defense” to Coverage!

6

Other Types Of Amendments

• Guaranty Changes– Adding or Removing Guarantors

• Have Remaining Guarantors Re-Affirm Continuing Obligations, Joint & Several Liability, No Change In Their Respective Obligations

Changing Loan Terms = Changing Guaranty Terms– Changing Loan Terms = Changing Guaranty Terms• Recite Changes and Guarantor’s Knowledge of Same• Re-Affirm Obligations After Modification

Acknowledge All Other Guaranty Provisions In Full Force and• Acknowledge All Other Guaranty Provisions In Full Force and Effect

7

The Impact of Amendments on Subordinate Third Parties• Subordinate Parties

– Review Terms of the Subordination Agreement to Determine I t Thi d P tiImpact on Third Parties

• Notice Requirements• Consent/Approval Rights

– If Subordination Agreement is Silent, Treat Subordinate Party Like a Guarantor

• Recite Changes and Third Party’s Knowledge of Same• Re-Affirm Obligations After Modification• Acknowledge All Other Subordination Provisions In Full Force

and Effect

8

Creditors’ Rights Concerns

• Adding Collateral/Adding Guarantor– Add New Collateral From Borrower or Guarantor to “Shore

U ” T bl d LUp” a Troubled Loan• Consideration Should Be Demonstrated Within Documents

– Add New Collateral From Affiliated Third Party• Consideration & Third Party Pledge Issues Must Be Addressed

– Add New Guaranty From Affiliated Third Party• Upstream & Downstream Guarantor Issues Under Tousa Case

– Dealing With Revocable Estate Planning Trusts• Alter Ego Issues and Concerns

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Forbearance Agreements

• Basic Elements– Acknowledge Defaults– Allow Notice and Cure Periods to Expire– Initiate and Then Postpone Remedies– Obtain Key Waivers Not Available In Other Contexts (i.e., One-y (

Action, Anti-deficiency and Bankruptcy)– Maintain Maximum Leverage Over Borrower– Restructure the Business TermsRestructure the Business Terms

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Why Use a Forbearance AgreementBasic Purposes of a Forbearance Agreement• First, Preserve and Memorialize Default Status

Establish Legal and Factual Grounds For Defaults– Establish Legal and Factual Grounds For Defaults– Establish Lender Protections to Pursue Remedies– Perfect Rights and Remedies to Collateral and/or Against

Guarantor PartiesGuarantor Parties• Next, Redesign Scope and Purpose of Revised Loan Terms

– Use Remedies as the Leverage to Maintain Compliance with Revised Deal TermsRevised Deal Terms

– Set Intermediate Performance Benchmarks• Finally, Obtain Waivers and Stipulations to Accelerate

RemediesRemedies

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Preserving and Memorializing Default StatusDefault Status– Establish Basis Of Disputes –

– Describe Factual Bases for Disputes And Defaults– Recite/Specify Legal Options for the Lender

– Sets Boundaries For Continuing Forbearance –– No Obligations On Lender Outside the Agreement – No Waiver Or Estoppel Beyond the Terms of the Agreement– Confidentiality as to Rights and Remedies– Right To Terminate And Pursue Remedies Immediately on Breach– Ease Path To Remedies - i.e., Receivership, Bankruptcy,

Guarantor, etc.

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Obtain Waivers and Stipulations to Accelerate Remedies• State Law Requirements

– Waivers or Deemed Compliance with Special Notice and Cure Ri ht i T t N ti C ll t l P f ti tRights. i.e., Tenant Notices, Collateral Perfection, etc.

– Waivers of Borrower Protections– Stipulated Grounds for Extraordinary Relief, i.e., Ex Parte

Receivership, Specific Performance of Key Terms, etc. – “Voluntary Payment” Provisions

• Bankruptcy – Relief StayBankruptcy Relief Stay– Establish Factual Grounds for Relief from Stay– Recite Agreement to Permit Relief from Stay

P id M h i f L d t Obt i St R li f– Provide Mechanics for Lender to Obtain Stay Relief

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