More "TIC' Loans Showing Up in CMBS Deals
Commercial MBS lenders are increasingly securitizing mortgages on properties that have a complex form of ownership, creating a fresh credit-quality concern for bond buyers.
The ownership structure, called “tenants in common” or TIC, permits up to 35 investors to take passive, undivided interests in a property. The fear is that such an unwieldy ownership group can complicate workouts if a mortgage runs into trouble.
While TIC loans were securitized with some frequency before the market crash, issuers largely avoided them when the conduit sector started to revive in 2010. But such loans have turned up more often recently, as fierce competition for business has made conduit originators more receptive to such borrowers.
Loans to TICs accounted for 8% of the collective collateral pool of conduit deals that closed in the third quarter, up from 5% a year earlier, according to Moody’s.
“It’s a real demonstrable increase,” said Dan Rubock, a senior vice president at the rating agency. “Tenants-in-common are becoming more common once again, and they need to be handled with care. I’ve noticed analysts coming by my desk more often to ask me how to deal with these.”
Among the last 20 conduit deals rated by Kroll, the percentage of TIC loans ranged from 0.5% to 16.2% of the collateral balance, with the level topping 7% in 12 deals, said managing director Robin Regan.
Before the crash, some securitized TIC loans had as many as 20-25 borrowers. But over the past few years, the number of borrowers has generally been limited to five. For example, there were typically only 2-4 TIC borrowers per loan in the recent Kroll deals. That is a key factor, because there’s less risk with fewer borrowers, Regan said. But word has it that some recent TIC loans have had 10-15 borrowers, increasing the potential for problems.
While TIC loans weren’t a major source of woes during the downturn, CMBS investors and servicers are wary of them because each owner has to sign off on workouts — meaning that a single TIC investor could potentially derail an agreement. They also worry about the possibility that individual investors in a TIC could block foreclosure by organizing “serial bankruptcies” — that is, filing successive bankruptcy claims to trigger a series of automatic stays on a property seizure.
Legal protections can be built into loan terms to curb the risks. For example, lenders usually insist that a single TIC investor be designated as the loan sponsor and take responsibility for dealing with servicers, with any workout agreement binding on the other TIC owners. Likewise, a recourse provision can discourage bankruptcy filings by making each TIC owner personally responsible for repaying his share of the loan. Another option is to set up the CMBS collateral as a financeable lease, making it easier to take control of the property in case of a default.
“If you properly structure these loans, you can make them close to credit-neutral,” said Gerard Keegan, a partner at law firm Alston & Bird.
But, he added, there’s still inherent risk in dealing with multiple direct owners of a property because there is nothing to stop those owners — who are often unsophisticated mom-and-pop investors — from seeking to block workouts or file for bankruptcy regardless of the protections.
It takes considerable time and effort by originators, their attorneys, the rating agencies and bond buyers to vet TIC loans and make sure all of the necessary bondholder protections are in place. For that reason, CMBS issuers steered clear of such loans when the market revived, because they had plenty of alternative lending opportunities. But as the number of lenders competing for assignments has grown, CMBS programs have become more willing to write loans to TICs.
Another factor could be a rise in loan demand from TICs seeking to arrange financing before potential curbs on the ownership structure take effect. A bill proposed by Sen. Bernie Sanders (I-Vt.) and a companion measure sponsored in the House by Rep. Marcy Kaptur (D-Ohio) would effectively repeal Section 1031 of the Internal Revenue Code, which allows real estate owners to defer capital-gains taxes when selling a property if the proceeds are used to purchase another property of equal value within 180 days. The IRS started allowing those proceeds to be funneled into TICs in 2002.