When a borrower defaults on a commercial loan by ceasing to make mortgage payments, a foreclosure does not have to be inevitable. There are several alternatives to foreclosure available for commercial loans.
One workout option for commercial loans (as well as residential loans) is forbearance. Forbearance is when the lender agrees not to enforce its foreclosure rights in exchange for the borrower taking some action to cure the default, such as make the past due mortgage payment over a prescribed period of time. Sometimes the lender will also agree to waive or modify a mortgage requirement that the borrower is unable to meet. In a forbearance, the lender retains the right to resume the foreclosure once the forbearance period expires if the loan has not been brought current or if certain agreed upon conditions are not met.
A commercial loan workout could also consist of a loan restructuring by means of a loan modification. With a modification, the lender may agree to:
The popular Home Affordable Modification Program (HAMP) is not available for most commercial properties, though 1-4 unit rental properties may qualify for a modification under the program.
Another possible commercial loan workout option is a short sale. In a commercial short sale, as with a residential short sale, the borrower sells the property for a price that is less than the total debt. The lender agrees to release its lien on the property and to accept the proceeds of the sale in full or partial satisfaction of the outstanding indebtedness. Depending on the terms of the short sale agreement, the lender may be able to obtain a deficiency judgment by filing a lawsuit following the short sale. Lenders are more likely to seek a deficiency judgment following the short sale of a commercial property than with a residential property.
A deed in lieu of foreclosure is also an option for commercial borrowers who are facing foreclosure. A deed in lieu of foreclosure is a transaction where the borrower voluntarily transfers title to the commercial property to the lender in exchange for the lender releasing the mortgage lien in full or partial satisfaction of the outstanding indebtedness. Borrowers are commonly given a release of all liability with deeds in lieu of foreclosure. However, if the property is severely underwater (where the value of the property is significantly less than the total debt), the lender may require an additional payment or insist it retain the right to seek a deficiency judgment.
A key benefit to a commercial deed in lieu of foreclosure transaction is that it generally provides a smoother transition of the commercial property than a foreclosure. Usually there is a mutual cooperation clause in the agreement so that tenant files, leases, and other records are easily transferred, and other issues that may come up are addressed. For this reason, lenders are sometimes more willing to consider a deed in lieu of foreclosure as an alternative to foreclosure for commercial properties.
Workouts that are available for commercial properties are generally very similar to those that are available for residential properties. However, one difference in the process of negotiating a workout involves the pre-negotiation letter. Whether a commercial property owner is seeking a forbearance, loan modification, short sale, or deed in lieu of foreclosure, the commercial workout process often starts with the pre-negotiation letter, which provides an outline for the preliminary discussions about the workout. The purpose of the pre-negotiation letter is to avoid any misunderstandings during the workout negotiations. The letter will set the ground rules for the workout discussions, preserve the lender’s rights regarding the existing default, and may eliminate the ability of the borrower to later claim that the lender made verbal promises or otherwise acted improperly regarding the workout. The letter will require the borrower to acknowledge that a workout agreement is not binding until and unless it is formalized in writing and has been signed by all parties.
If you are a commercial property owner facing foreclosure, there are multiple options available to you as alternatives to foreclosure. There are many legal intricacies involved in negotiating a commercial loan workout and it may be beneficial to employ the services of a qualified attorney to help you through the process and ensure that you fully understand your rights under the law.