Single Family Residential Portfolio Financing: The Pixilation of Commercial Real Estate A publication of Winter issue 2015 sponsored by CRE Finance World Winter 2015 15 (and its lawyers…), but the number and type of properties makes this a reasonable approach, with the lender looking again to the large number and diverse locations of the individual properties as a mitigation of risk. Title. A title policy covering each property will surely be required, meaning title searches for hundreds of if not more than a thousand properties. Multiply the portfolio size by an assumed number of exceptions per property, and it is easy to see how time-consuming a standard review would be. Even assuming that a well-prepared commitment (or owner’s policy) is produced for each property, and that only 1/3 of a 1000-asset portfolio has title documents of the type that would normally be carefully reviewed (if not abstracted) the time to complete this task could run over 1000 hours easily. Even with efficient timekeepers at reasonable hourly rates, the traditional approach would be cost prohibitive. Perhaps, if the lender becomes comfortable with the borrower’s acquisition processes, it may simply “spot check” rather than fully review each title commitment. Or perhaps the parties agree on a protocol that allows large categories of typical exception documents to go un-reviewed altogether. Depending on the state, many of the typical commercial endorsements (land same as survey, PUD, access, subdivision and in some cases a comprehensive endorsement) are either not available for residential properties or are not available without a survey (which lender may have waived) or other title work (which simply may not have been done in the properties’ former lives as owner-occupied houses). Since getting at least some details of title (legal descriptions, for an obvious example) correct is ultimately essential to the lender, the process cannot be given too short a shrift; someone — whether it be a title insurer or agency, the lender’s in-house team or outside counsel — must put into place an efficient process for assimilating and manipulating title data, whether that data comes from the borrower’s owners’ policies, directly from new searches or a combination of the two. Selection of the title company is critical to coordinate not only the title work but the final policy with limited endorsements the lender is willing to accept. Even more so than usual, the national title office will have to work closely with and appropriately manage the various local agents, whose input is critical when it comes to minimizing recording/transfer fees and, mortgage taxes, and the procedures required for recording mortgages whose collateral will include multi-state properties. Commercial real estate professionals and their legal counsel that have previously dealt little with residential real estate will find out quickly that there is a big difference in the procedures and standards that prevail in the commercial and the residential universes. The few preceding examples demonstrate the inherent conflict between the residential nature of an SFR portfolio and the commercial nature of a CRE loan. The kinds of issues identified above arise in just about every aspect of property level due diligence in an SFR portfolio financing. SRF Financing / Document Challenges Similarly, though the CRE finance markets (the securitization market, in particular) will expect to see documentation in form and in substance similar to the customary CRE documentation, adjustments must be made here as well. A typical form of loan agreement (or mortgage, if that’s where the substantive deal points are embodied) cannot be adapted for use in an SFR financing without some important changes. Here are some examples: Substitution and Release of Properties. While many commercial loan arrangements contain provisions allowing for the release of portions of the collateral, and some contemplate substitution of collateral (in more limited circumstances), these concepts can be fundamental components of a SFR financing. In contrast to a mortgage loan secured by more traditional collateral, there are several foreseeable circumstances in which the borrower or the lender (or both) may want to get certain assets out of the collateral package. It is not unusual to close an SFR portfolio loan with a portion of the properties not yet stabilized (renovations completed and leases in place), so any failure to achieve stabilization on an appreciable number of properties could, among other things, drag down the DSCR of the collateral as a whole or result in property condition circumstances that are not optimal. Any documentation should contain specific, streamlined and easily-implemented procedures for substitution and release. Yield maintenance or prepayment premium issues will of course be front-and-center in these discussions. Since bankruptcy-remote SPEs can be expected to be required as borrower entities, care must be taken to conform the representations and the “separateness” covenants in the loan documents (and in the constitutive documents of the borrower entity if applicable) to the realities of the circumstances. For instance, a borrower entity that may, in accordance with the
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