Kelly Moore: Forbearance Of Real Estate Loans

Forbearance, in the context of a mortgage process, is a special agreement between the lender and the borrower to delay a foreclosure. The literal meaning of forbearance is “holding back.” When mortgage borrowers are unable to meet their repayment terms, lenders may opt to foreclose. To avoid foreclosure, the lender and the borrower can make an agreement called “forbearance.” According to this agreement, the lender delays its right to exercise foreclosure if the borrower can catch up to its payment schedule by a certain time. This period and the payment plan depend on the details of the agreement that is accepted by both parties. Historically, forbearance has been granted for customers in temporary or short-term financial difficulty. If the borrower has more serious problems, e. g. the return to full mortgage payments in the long term does not appear sustainable, and then forbearance is usually not a solution. Each lender is likely to have its own suite of forbearance products.

Types of forbearance

Examples of the types of forbearance which lenders may potentially consider include:
• A full moratorium on payments
• Reduced payments:
• Above Interest-Only (termed Positive-Amortising)
• Below Interest-Only (Negative-Amortising)
• Interest Only
• Reduced interest rate
• Split Mortgage
It needs to be understood that the type of forbearance being granted is being provided based on the customer’s individual circumstances. For example, borrowers in short-term financial difficulty would be more likely to be approved of either a (short term) full moratorium or negative-amortising deal than customers in long-term financial difficulty, where the lender would at all times seek to ensure that the capital balance continues to be reduced (via an amortising forbearance arrangement). Negative-amortising forbearance arrangements are only suitable as short-term deals since failure to pay interest timely and/or on the whole loan balance is effectively is additional borrowing.

A lender who grants forbearance is refraining from enforcing its right to realize interest on securities under their agreement or contract with the borrower. This is done to assist the borrower in returning to a performing financial position as well as better position the lender to realize its security should the borrower fail to perform. The borrower does not escape their debt obligations by accepting the agreed forbearance amount and/or terms. On expiry of the agreed forbearance period the loan account reverts to its original form. In many instances, upon expiration of the forbearance period, the difference between the level of forbearance granted and the full repayment (which was missed) is recalculated over the remaining term and the customer’s new repayment is based on the current loan balance, rate and term. Some exceptions to this is where a reduced rate was given (where the possible intention here to reduce the capital balance as quickly as possible, thereby reducing the loan to value) or where the type of forbearance is for the lifetime of the loan, i.e. a split loan where part of the loan is parked until the expiry date, with the intention that at that time a suitable repayment vehicle (say, sale of asset) is in place for the repayment of the loan in full.

Forbearance internationally

The term ‘forbearance’ is addressed by different names in different countries. The norms of a foreclosure agreement also vary. Borrowers can ask their lenders to make changes to the terms of their loans. Borrowers can either opt for a short-term relief by having their mortgage payment suspended for a short period of time (known as forbearance in the U.S.), or they can apply for reduced payments over the life of the loan’s term (known as loan modification in the U.S.). Lenders are required to give a particular reason as to why an application for hardship variation was being turned down by them. Borrowers are encouraged to talk to their internal complaints section of their respective bank or file a dispute.

Receiving Forbearance

Being awarded forbearance on a mortgage requires contacting the lender, explaining the situation, and receiving approval. Borrowers with a history of making payments on time are more likely to be granted this option. The borrower must also demonstrate cause for repayment postponement, such as financial difficulties associated with a major illness or the loss of a job. For example, a borrower who worked the same job for 10 years and never missed a mortgage payment during that time is a good candidate to receive forbearance following a layoff, particularly if the borrower has in-demand skills and is likely to land a comparable job within weeks or months. Conversely, a lender is less likely to grant forbearance to a laid-off borrower with a spotty employment history or a track record of missing mortgage payments.

Mortgage Forbearance Agreement

A mortgage forbearance agreement is an agreement made between a mortgage lender and delinquent borrower in which the lender agrees not to exercise its legal right to foreclose on a mortgage and the borrower agrees to a mortgage plan that will, over a certain time period, bring the borrower current on his or her payments. A mortgage forbearance agreement is made when a borrower has a difficult time meeting his or her payments. With the agreement, the lender agrees to reduce or even suspend mortgage payments for a certain period of time and agrees not to initiate a foreclosure during the forbearance period. The borrower must resume the full payment at the end of the period, plus pay an additional amount to get current on the missed payments, including principal, interest, taxes, and insurance. The terms of the agreement will vary among lenders and situations. A mortgage forbearance agreement is not a long-term solution for delinquent borrowers; it is designed for borrowers who have temporary financial problems caused by unforeseen problems such as temporary unemployment or health problems. Borrowers with more fundamental financial problems such as having chosen an adjustable rate mortgage on which the interest rate has reset to a level that makes the monthly payments unaffordable must usually seek remedies other than a forbearance agreement. A forbearance agreement may allow a borrower to avoid foreclosure until his or her financial situation gets better. In some cases, the lender may be able to extend the forbearance period if the borrower’s hardship is not resolved by the end of the forbearance period to accommodate the situation.

Mortgage Forbearance Agreements vs. Loan Modifications

While a mortgage forbearance agreement provides short-term relief for borrowers, a loan modification agreement is a permanent solution to unaffordable monthly payments. With a loan modification, the lender can work with the borrower to do a few things (such as reduce the interest rate, convert from a variable interest rate to a fixed interest rate or extend the length of the loan term) to reduce the borrower’s monthly payments. In order to be eligible for a loan modification, the borrower must show that he or she cannot make the current mortgage payments because of financial hardship, demonstrate that he or she can afford the new payment amount by completing a trial period and provide all required documentation to the lender. The documentation the lender requires could include a financial statement, proof of income, tax returns, bank statements, and a hardship statement.

When should you ask for forbearance?

Forbearance is an option for people experiencing temporary financial hardship. This might be the loss of a job, the death of a spouse or secondary wage earner, a medical hardship, or an environmental disaster. In most cases, forbearance is for borrowers who haven’t defaulted on their loan yet. If you’re already in default, there may be other options, like a modification, that will better suit your needs. If you’re 270 days or more late on your loan, forbearance may not be an option. If you’re at risk of default or are unsure that you’ll be able to make your next payment, call your lender or servicer immediately and ask what options are available. The lender or servicing company will ask you to complete a form that verifies your income, assets, and debts or liabilities. You’ll also have to provide documentation to support your financial situation. If approved, you’ll sign a forbearance plan that outlines the terms of the forbearance, whether interest continues to accrue or not, and the length of the plan. A forbearance plan can negatively affect your credit score temporarily. However, it won’t affect your score as much as delinquency or default would.

How long does it last?

Most forbearance plans cover 12 months or less, though federal student loans can sometimes be given up to 36 months for forbearance. In the private sector, or with mortgage loans, the forbearance term is typically given in three-month increments with a maximum of 12 months. The exact length of the plan is determined by your lender or servicing company. If you’re experiencing financial hardship, learn about your options for avoiding delinquency or default. Forbearance can be a helpful option, but it may not be right for you. It depends on the financial hardship you’re experiencing, the type of loan you have, and the length of time over which you need assistance. Call your lender or servicing company to discuss your options. Before entering into a forbearance agreement, make sure you understand the fine print and the long-term implications for your loan.

Strategies, Techniques and Objectives

The forbearance agreement adheres to the following principle: In exchange for economic and legal concessions, the lender obtains certain credit or collateral enhancements and/or remedies. “Concessions” include:
• restraint or forbearance from accelerating the loan and/or pursuing foreclosure and other legal remedies;
• extension of the maturity date;
• waiver of economic or covenant defaults;
• suspension of principal amortization or interest payments;
• reduction of the interest rate;
• partial release of collateral;
• release of guarantors or reduction of their obligations;
• the opportunity to repay the indebtedness at a discount;
• modification or waiver of covenants or capital requirements;
• additional loan advances; or
• an exchange of debt for equity.
“Enhancements” in favor of the lender include:
• the cure of legal, document or perfection deficiencies;
• concessions or contributions from other lenders in the capital stack;
• additional collateral from a sponsor, guarantor or equity investor;
• an additional guaranty of a previously non-recourse loan, debt service, project completion or other financial obligations;
• an increase in the scope of guaranteed obligations, or new “recourse” events;
• more loan covenants, financial reporting or monitoring rights;
• control of the project revenue (cash collateral) through a cash management agreement;
• a cash flow sweep tied to an approved budget, controlled expenditures, or a new or improved revenue stream;
• a capital infusion to stabilize the project or reduce the indebtedness;
• ratification of the loan documents and lien priority;
• waiver and release of defenses and counterclaims; and
• Consent to remedies. Negotiating the trade-off of concessions for enhancements framed against the backdrop of uncertain market conditions or asset classes (such as retail, hospitality or high-end condominium construction), rising interest rates, densification of real estate, e-commerce, scarcity of institutional replacement financing, suffocating regulation and risk retention rules, backlogged courts, crafty lender liability defenses and judicial and legislative sympathy has become an art form like never before.

Who is Eligible for a Forbearance Agreement?

The lender’s goal in offering a forbearance agreement is to improve the chances of eventually receiving full payment, or at least a more significant amount than it could expect if it were to enforce the terms of the original loan documents. Generally if the business can establish that the cash flow problem is short-term and there is a substantial likelihood that timely payments will resume within an acceptable time frame or the loan be refinanced and paid in full, the lender will be more inclined to consider forbearance. On the other hand, if it appears to the lender that the company’s financial situation will only worsen and the best chance to minimize losses comes from pursuing its legal remedies immediately, a forbearance agreement is unlikely. Thus, one aspect of the request and negotiation regarding a commercial loan forbearance agreement will involve putting together a plan to demonstrate to the lender that the problem is short-term and that the company has a plan for stabilizing its finances and making good on the loan. Driving the debtor company into bankruptcy or dissolution is bad for the lender, but so is gambling on a business that is likely to deteriorate further rather than recover.

Concessions to the Lender in a Forbearance Agreement

The lender’s primary purpose in offering forbearance is not to help out the borrower. It is to maximize the lender’s recovery of the debt. Thus, when a lender offers forbearance, it is typical to include provisions designed to assist the lender in ultimately collecting on the debt. Of course, these vary depending upon the terms of the original loan, the extent of the default, the nature of the business, the duration of the problem, and the reason for the default. However, some common provisions include:
• A requirement that the debtor company affirm the amount of outstanding debt and the default
• A waiver of defenses to repayment of the loan
• Requirements that the debtor take certain actions to improve cash flow, such as: Working with an outside consultant to increase profitability, Seeking refinancing of the loan, Listing certain property for sale, whether real estate or excess inventory
• Additional security on the loan
• A representation from the debtor that it does not intend to file for bankruptcy protection

The Dangers of Forbearance Agreements with Lenders

In situations where commercial borrowers (developers, businesses, etc.) are in default on a promissory note, the lender may offer to enter into a “forbearance agreement” or some other form of deferment agreement with the borrower. These are often presented by the lender as a generous concession on their part in order to give the borrower additional time to try to work its way out of the problem. Although, forbearance agreements may provide the breathing space a borrower needs, more often than not, they are a means by which the lender improves its position to the detriment of the borrower. Forbearance agreements are used when the borrower is already in default on the loan and the lender could immediately begin to collect against collateral and file a lawsuit for any deficiency. In a forbearance agreement, the bank or other lender offers to forbear from collection efforts for a period of time in exchange for certain things from the borrower. All forbearance agreements involve borrowers and/or guarantors giving up certain rights or property in exchange for additional time or other considerations. It is of utmost importance that a borrower, or guarantor, understands the deal they are making before signing a forbearance agreement.