Chapter 6 Flashcards
How do fixed-rate and variable-rate loans differ?
fixed rate loans interest rate does not change
variable rate-cheaper initially because interest rate can be adjusted
Under what circumstances may a borrower choose to use each of the following types of loans: tax-exempt loan wraparound loan equity participation loan construction loan leasehold loan workout
tax-exempt loan-stimulate development (government loan)
wraparound-rising interest rates-borrowers need financing but can’t afford to refinance at market rates
equity participation loans-workout situations or high interest rates (workout=repaying past due loans)
construction loan-fund physical construction and lasts until first tenants move in
leasehold loan-obtained by tenants for unique, specialized or expensive tenant improvement costs
What challenges are provided to lenders as a part of the foreclosure process?
Lender liability is a significant problem in foreclosures.
Lender must act in a fiduciary manner versus acting in bad faith.
Lenders who negatively impact borrowers business relationships or efforts to operate a property may result in the lender experiencing additional losses such as forgiving the loan.
How do bankruptcies affect the lender/borrower relationship?
The length of time it takes a lender to receive control over a property is often long due to the privileges the legal system extends to debtors in terms of considering re-organization plans. In addition, when a borrower files for bankruptcy, the lender is unable to initiate foreclosure actions and the debtor remains in control of the assets.
How do the underwriting and due diligence process differ from the perspective of the asset manager?
Underwriting is the process by which a lender takes steps to determine the financial strength of a property, its ability to produce a required level of income over time, the strength of a potential borrower, and the ability of the property and borrower to comply with the conditions established by the lending institution.
Lender’s dues diligence is the process by which a lender evaluates current market conditions and potential risks that may impact a property and its tenants prior to making a final investment solution.
Coverage rates and loan to value ratios are two due diligence financial calculations used to determine whether or not money should be loaned.
Why are lenders interested in reviewing operating and ground leases as part of a due diligence process?
To make certain there are no lease provisions that would keep them from succeeding the landlord in the event of default. Lenders seek subordination of ground leases to allow them to obtain the property and eliminate the ground lease in the event of default.
Describe how title insurance and environmental concerns are utilized in the due diligence process.
A good title examination seeks to find all lis pendens, which are public notices that the property is subject to a lawsuit that may impede the sale or financing of the property.
CERCLA, SARA, and other environmental legislation places liability for environmental issues on current owner regardless of who causes the environmental violations.
Define spread.
The difference between the interest paid to borrow money and the rate of interest that could have been earned by making low risk investments.
Define amortization.
The systematic reduction of a mortgage by applying principle payments against the loan balance.
What are the steps of the foreclosure process, and the why is it important for asset managers to be familiar with how this works?
1) Official notice to borrowers
2) Notice of default sent to recorders office
3) Time period for borrower to make repayment
4) Lender collects rents directly from tenant
5) After 90 day notice sale can be scheduled after public notification
6) Property sold at auction to highest bidder (typically the lender)
7) After sale the deed is cleared of liens
8) May be redemption period of 6-12 months
Describe the different types of bankruptcy code that most asset managers have to address when a borrower files for bankruptcy under federal law.
Chapter 7 (liquidation)-debts wiped out for giving up non-exempt (valuable, electronics, equity) property
Chapter 11 (reorganization)-gives debtors a fresh start subject to fulfillment of obligations under reorganization plan.
Define coverage ratio and describe how it assists lenders in evaluating a borrower’s request for funds.
coverage ratio- a measure of a property’s ability to meet its debt service requirement.
higher ration means higher risk.
Define LTV (loan to value) ratio and discuss how it assists lenders in making decisions regarding borrower’s requests for financing.
The percentage of outstanding loan amount as a ratio of the value of the property secured by the loan.
Describe the difference between an operating lease and a ground lease and why lenders review these in the due diligence process
operating lease-normal lease for space
ground lease-tenant leases land and pays for all improvements
attornment-tenants recognition of mortgage as the landlord in the event of default
Describe the purpose of an estoppel certificate.
It certifies the lease term has started, the landlord has completed all tenant improvements, and that the tenant is in possession of the premises.
