SS147: What is Special Servicing

SS147: What is Special Servicing

With most commercial property loan documents, there is both a loan servicer and a special servicer. In this episode, Charles discusses what each servicer does, and the role they play in commercial mortgages.

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Talking Points:

·        During times of economic distress, like the Great Recession or at the height of the pandemic; the term “Special Servicing” regularly makes its way into the news headlines.

·        Within the pages of most commercial loan documents; there are 2 different servicers listed. First, is the loan servicer. The loan servicer’s role is basically just to collect mortgage payments from the borrower while making sure that the taxes and insurance are paid. That is where their responsibility ends.

·        The second servicer is the special servicer. Within the commercial loan documents, it will state that during the occurrence of certain events, the note is able to be transferred to the special servicer. The special servicer is now able to begin the foreclosure action or renegotiate the loan.

·        What are the reasons a loan would be moved into special servicing:

o   Payment defaults

o   Continuous late payments

o   Unpaid taxes or insurance

o   Impending maturity default (A maturity default occurs when a borrower fails to pay the lender the balloon payment, the principal balance, which is due at the maturity of the loan. If a borrower takes out a loan with a 5-year term, and fails to refinance and/or pay off the principal balance at the 5-year mark, it would be considered a maturity default.)

o   Another reason would be the loss of an anchor tenant

o   Renovations are not moving along in the timeline established previously by the borrower

o   Economic or physical occupancy dropping below a specified percentage

o   The determination that a property is in a deteriorating state or is in poor condition

o   And possibly anything else the noteholder is worried about

·        It is important to note that non-payment of the loan is only one of many reasons for the loan to go into special servicing; many of the other reasons are arbitrary. The special servicer is only called upon when something (usually negative) happens to the loan or to the property

·        What Types of Loans are Most Likely to Have a Special Servicer Provision?

§  It is rare to see loans under $2 million go into special servicing, smaller loans are typically sold off to avoid the expensive process of special servicing. In many instances, these loans are usually held on the balance sheet of the bank and are not sold on the secondary market. Side note: (Special servicers are usually paid monthly, as long as the loan is in default, and then once a resolution has been made, which can be expensive.)

o   Many commercial mortgages, are pooled together, securitized, and sold to investors on the secondary market as commercial-backed securities or CMBS loans. This means that the original lender does not service them. A third party, a master servicer, handles payments and communicates with borrowers. Once the loan goes into special servicing, the special servicer takes over and tries to negotiate terms between the borrower, and the master servicer.

o   Just because a loan goes to special servicing, it doesn’t guarantee that the borrower will lose the property. These talks will start off mainly with negotiations between parties to reach a payout schedule or to modify the loan, bringing the borrower current. If no resolution is made, the process of foreclosure begins.

·        As an investor, what worries me most about special servicing is the inspector’s opinion on the condition of the property, it is not determined by the original lender, but by a third-party inspector, and it is their opinion that the master servicer will consider.

·        I know an investor from a mastermind, and one of his properties went into special servicing and he didn’t know for months, actually not until after the property was sold. The lender was paid off 100%, and the investors made 20%+ annual returns but an inspector noted several issues many months before the sale that moved it into special servicing. The reasons included; one window that was boarded up (during a renovation of that particular unit), and parts of the roofing soffit that were missing. It also listed that the building was dirty, and required power washing.

Transcript:

Charles:
Welcome to Strategy Saturday; I’m Charles Carillo and today we’re going to be discussing what is special servicing.

Charles:
Have you always wanted to invest in real estate, but didn’t have the time, didn’t know where to find the deals, couldn’t get the funding and didn’t want tenants calling you. Since 2006, I’ve been buying income producing properties and great locations that provide us with consistent passive income. While we wait for appreciation in the future and take advantage of tax laws while we’re waiting and unlike your financial advisor, we invest alongside our investors in every property we purchase. Check out to investwithharborside.com. If you like the idea of investing real estate, if you like the idea of passive income partner with us at investwithharborside.com, that’s investwithharborside.com.

Charles:
During times of economic distress at the Great Recession, or at the height of the pandemic, the term special servicing regularly makes its way into news headlines.

Charles:
Within the pages of most commercial loan documents, there are two different servicers listed. First is the loan servicer. The loan servicer’s role is basically just to collect mortgage payments from the borrower while making sure that the taxes and insurance are paid. That is where the responsibility ends. The second servicer is the special servicer. Now, within those same commercial loan documents, it will state that during the occurrence of certain events, the note is able to be transferred to the special servicer. The special servicer is now able to begin the foreclosure action or renegotiate the loan. Now, what are some of the reasons a loan would be moved into special servicing? Number one would be payment defaults or continuous late payments, unpaid taxes or insurance impending maturity default. So a maturity default occurs when a borrower fails to pay the lender, the balloon payment, the principal balance, which is due at the major maturity of the loan.

Charles:
If a borrower takes out a loan, say for five years, and fails to refinance and or pay off the balance at the five-year mark, it would be considered a maturity default. Another reason would be the loss of an anchor tenant. Uh, renovations may be aren’t moving along in a timeline established previously by the borrower, economic or physical occupancy dropping below a specified percentage, the determination that a property is in a deteriorating state or is in poor condition and possibly anything else the note holder is worried about. Now, it’s important to note that non-payment of loan is only one of many reasons for the loan to go into special servicing. Many of the other reasons are arbitrary. A special servicer is only called upon when something usually negative happens to the loan or to the property. Now, what types of loans are most likely to have a special servicer provision?

Charles:
It is rare to see loans under $2 million go into special servicing. Smaller loans are typically sold off to avoid the expensive process of special servicing. In many instances, these loans are usually held on the balance sheet of the bank and are not sold in the secondary market. Now, as a side note, special services are usually paid monthly as long as the loan is in default, and then once a resolution hasn’t made, which can be expensive. Now, many commercial mortgages are pooled together, securitized and sold to investors on the secondary market as commercial backed securities or C M B S loans. This means that the original lender does not service them. A third party, a master servicer handles payments and communicates with borrowers. Once the loan goes into special servicing, the special servicer takes over and tries to negotiate terms between the borrower and the master servicer.

Charles:
Now, just because a loan goes into special servicing does not guarantee that the borrower will lose the property. These talk will start off mainly with negotiations between parties to reach a payout schedule or to modify the loan, bring in the borrower current. If no resolution is made, the process of foreclosure begins. Now, as an investor myself, what worries me most about special servicing is the inspector’s opinion on the condition of the property. It is not determined by the original lender, but by a third party inspector, and it is their opinion that the master servicer will consider. Now, I know an investor from a mastermind and one of his properties went into special servicing and he didn’t know for months. Actually not until after the property was sold, the lender was paid off 100% and the investors made 20% plus annual returns. But inspector noted, uh, several issues many months before the sale that moved into special servicing. The reasons included one window that was boarded up during the renovation of that particular unit and parts of the roofing soffit that were missing. It also listed that the building was dirty and required power washing. So I hope you enjoyed. Please remember to rate, review, subscribe, submit comments and potential show topics@globalinvestorspodcast.com. Look forward to two more episodes next week, and if you’re interested in actively investing in real estate, please check out our courses and mentoring programs at syndicationsuperstars.com. That is syndicationsuperstars.com.

Announcer:
Nothing in this episode should be considered specific, personal or professional advice. Any investment opportunities mentioned on this podcast are limited to accredited investors. Any investments will only be made with proper disclosure, subscription documentation, and are subject to all applicable laws. Please consult an appropriate tax legal, real estate, financial or business professional for individualized advice. Opinions of guests are their own information is not guaranteed. All investment strategies have the potential for profit or loss. The host is operating on behalf of Syndication Superstar, LLC, exclusively.

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