Frequently Asked Questions- Defeasance
What are the benefits of engaging Defease With Ease?
What is defeasance?
Since facilitating our first CMBS defeasance back in 2000, We have consistently
remained the first choice in the industry among real estate owners, brokers and attorneys.
We put our unparalleled experience and deep relationships to work on every defeasance to make sure
it closes on time. Our origination group will explain the defeasance process, provide an initial
cost estimate, and work with the customer to answer all questions.
We assign a knowledgeable, dedicated, experienced deal manager to actively manage every transaction
and push it towards the customer’s desired closing date. In fact, we made our mark coordinating
large, multi-loan, portfolio defeasances across several servicers to close
on the same day, but we’re just as well known for giving that same attention and level of service
to the customer with a small balance loan. Smaller balance loans are just as important to us as
they are to the customers that need to defease them in order to sell or refinance.
We believe in consistent communication throughout the process to manage our customer's
expectations regarding timing and cost. While in some cases our fee may be nominally higher than another's, we also work harder than anyone else.
Read what our clients say
about us and make sure
you Defease With Ease®.
You really do get what you pay for, so in this rapidly changing
lending environment, it’s more important than ever to make sure you engage the best in the business
to get your transaction closed quickly and correctly while your source of funds is committed to close.
How do I know if my loan requires defeasance?
Defeasance is a substitution of collateral. A portfolio of qualified government securities is
structured such that the redemption of principal and interest from the securities will produce sufficient
cash flow to make the remaining loan payments as they come due. The securities are pledged to the
lender in exchange for the lender’s release of the real estate from the lien of the mortgage.
Conduit loan defeasances involve many parties, require a number of deliverables, and take about
thirty (30) days to complete. Contact us
to start the process.
When can I defease my loan?
Most commercial real estate loans originated after 1998 contain a defeasance provision,
but you should check your loan documents to be sure. The two to four page defeasance section
typically can be found in either the note, the mortgage or the loan agreement (if your documentation
includes a separate loan agreement). We can help you determine if your loan contains a defeasance
provision, if you contact us
How much does a defeasance estimate cost?
Most defeasance provisions in existing loans prohibit defeasance for the
lesser of (a) three years from the date the loan closed, or (b) two years from
the date the loan was securitized by the lender. However, this “lock-out period”
can vary from loan to loan, so it is important to review your loan documents to
determine the lock-out period that applies to your specific loan. Note that the
second prong of the lock-out period is based upon when the loan was securitized
(i.e. transferred by the lender to a REMIC trust); not the date the loan closed.
, and we can help you determine when the lender
securitized your loan.
How will I know what securities to buy?
One of our experienced team members will be happy to provide you with a cost estimate at no charge, if you contact us
The most accurate estimate can be attained by having one of our originators review the applicable
sections in your loan documents. We provide written estimates promptly and are happy to answer all of your questions.
You may also visit our online calculator
to run your own estimate. It includes helpful prompts, but you can always call us for assistance.
Who is involved in a defeasance?
If you engage us to facilitate your defeasance, we will
create and optimize a securities list based upon the defeasance requirements in your loan documents.
The defeasance provisions in most loan documents require that the securities be
direct obligations of the United States that mature as close as possible to the
date on which the proceeds will be needed for a payment under the note. The
securities also cannot be callable or subject to early redemption. A typical
defeasance transaction involves the purchase of a portfolio of anywhere from
five to fifty securities, depending on the length of the remaining term of the
loan. The substitute collateral for a defeasance is typically a mix of T-Bills,
T-Notes and STRIPS, unless the loan documents permit agency debt.
How much does a defeasance cost?
Depending on the size of the loan and the complexity of the transaction, there
could be as many as 25 different parties involved, including an accountant, loan servicer,
securities broker-dealer, securities intermediary, successor borrower, escrow agent,
purchaser and purchaser’s lender or refinance lender, rating agencies, and all of their
respective attorneys. For every defeasance, the borrower will need to engage its own
attorney to represent it in all aspects of the transaction, including for the purpose
of reviewing and negotiating the defeasance documents, explaining the defeasance documents
to the borrower, and issuing an enforceability opinion. We also encourage every
borrower to seek the advice of its own accountant regarding the impact of the defeasance
on the borrower’s specific tax and accounting situation.
Why does Commercial Defeasance prefer to use a broker-dealer that charges a nominal, fixed fee
Every defeasance has two cost components: (1) transaction costs, and (2) the
cost of the securities that comprise the substitute collateral. The transaction costs
consist of the fees of the various parties involved, which generally range from $45,000 to
$65,000, in the aggregate (excluding borrower’s counsel’s fee), if the borrower takes advantage
of our network of experienced third party service providers. The transaction costs vary
depending upon the size of the loan, the complexity of the transaction (i.e. a partial defeasance
or a New York-style defeasance), and the fees charged by the servicer of the loan and their legal counsel.
However, the single biggest cost component is the securities purchase. Borrowers should be
aware that some securities brokers include significant fees for themselves in the price of
the securities without separately disclosing those fees. Securities purchases that are conducted
as a so called “competitive bid” process are particularly susceptible to this type of fee gouging,
because brokers (including large, well-respected institutional brokers) traditionally make money
by including as much mark up in the securities cost as they can get away with. That’s why Commercial
Defeasance pioneered a less expensive, more transparent approach to the securities purchase –
a nominal, fixed broker fee that is disclosed up-front in writing.
for the securities purchase when other facilitators tout a “competitive bid” process?
Why couldn't I go directly to a broker and purchase the securities myself?
Our defeasance volume is so much greater than any other facilitator (even large,
well-known institutions) that broker-dealers are willing to work for our customers for a fixed fee
of $1,500 - $5,000 (depending on loan size) over the broker's cost to obtain the securities directly from the market
makers. Some of the same broker-dealers from whom others get their “competitive bids” actually
have politely declined to work on our defeasances, because they could not or would not limit their fee to
the fixed fees we require for the amount of work required to deliver a defeasance portfolio.
While the name “competitive bid” process may sound appealing, the reality is that broker-dealers
would much prefer to handle a few hundred million dollar trades for large fees from their other
customers than perform the 10 – 40 relatively small trades required for a defeasance for one small fee.
If they’re going to do all the extra work required by a defeasance portfolio, they want to get paid big fees for it.
As a result, a “competitive bid” process for a defeasance portfolio can yield bids from brokers that are
not interested in buying a defeasance portfolio, unless it commands a hefty premium. In the end, the
“competitive bids” can include undisclosed mark ups of $20,000, $25,000 and $35,000 on a $3 million defeasance,
so the lowest bid is padded with a $20,000 broker fee.
Contrast the “competitive bid” with the fixed $2,500 fee that
would have been charged for the same transaction by a broker-dealer working for a nominal, fixed fee.
Even if the competitive bid process happens to yield a reasonable fee once in a while, it will rarely, if ever, result in a
broker fee that is less than our negotiated, fixed fee, so why even take a chance? That’s why Commercial Defeasance believes a low, fixed, pre-negotiated broker fee
obtains the best result for the customer.
Why might someone else produce a defeasance cost estimate with a lower securities cost?
You could, but we don't recommend it. If the broker fails to deliver just one security in the portfolio, the defeasance cannot close,
which means the sale or refinance closing has to be rescheduled. In addition to cost considerations, it's important to use a broker
with significant defeasance experience. The real estate closing is just too important to take a chance on a broker who is not used to the rigors of a defeasance closing.
How long will it take to defease my loan?
There is a limited universe of securities available that qualify for a defeasance portfolio, so there shouldn’t
be a lot of difference in an initial securities cost estimate. If another estimate is lower than ours, the difference
can be attributed to one or more factors, including a difference in the date and time of the estimates (securities
costs change by the second), an error in the code for another calculator or an incorrect input, an attempt to “low-ball” the estimate in
order to get your business, or a questionable assumption built into the estimate. For example, some estimates
assume that the securities are bought the day the estimate is given rather than on the target defeasance date,
which means the cost estimate is artificially reduced by the amount of interest that the borrower would earn on
the securities from the date of the estimate through the target closing date had the borrower actually bought the
securities on the date of the estimate (even though the securities won’t actually be purchased until just prior
to the scheduled defeasance closing date).
We strive to provide the most accurate cost estimate for the most efficient securities
portfolio available. Our goal is to provide realistic pricing up front and update that pricing for you periodically,
so you’re not surprised at closing by unexpected cost increases due to market movement since the
last estimate. If you’re interested, an affiliate of Commercial Defeasance can help you lock in the securities
cost in advance of closing, so the cost won’t be subject to market fluctuation during the defeasance process.
for more information.
Can I use my own attorney to defease my loan?
The defeasance provisions in the loan documents typically require that you give your loan servicer
30 to 60 days prior written notice of your intent to defease. Some servicers are willing to expedite the
process but may charge an additional fee. In emergency situations, we have closed defeasances in less than
a week with the hard work and cooperation of all parties, but it’s best to try to comply with the notice
requirement in the loan documents, if at all possible.
Can I use my own accountant for the defeasance?
Yes. You will need to engage your own attorney to represent you in all aspects
of the defeasance transaction, including reviewing, explaining and negotiating the defeasance documents,
rendering a due authorization/enforceability opinion, preparing release documents, and providing borrower
organizational documents. You may desire to use the attorneys who were involved in the original loan closing,
provided that their level of service was satisfactory and they are, or can become, proficient with the
What is meant by the "residual" associated with a defeased loan?
You are encouraged to use your own accountant for accounting and tax advice that is specific to your
situation, but the loan servicers usually require that the accountant's report
delivered for each defeasance
be issued by a "Big 6" accounting firm. Even if the servicer allows you to use your own accountant for the
report, it typically can be done cheaper, more reliably and more efficiently by an accounting firm that is
already experienced in issuing such reports in a format that has been approved by the servicers and rating
agencies on other transactions.
What is "float"?
The securities portfolio for a defeased loan should be as efficient as it practicably
can be (i.e. there should be just enough cash generated by the securities to make the remaining
payments as they come due). However, there may be value in the pledged collateral account,
after the loan is paid in full, from “float” or from a “par repayment provision”. That potential
remaining value, whether from float or from a par repayment provision, can be referred to generally as “residual.”
Why does the Accountant's Report ignore float when determining
if the securities portfolio will
While we strive to make every securities portfolio as efficient
as practicable, in most cases, there simply are not securities that mature on the day of
each and every remaining scheduled payment date for the loan that is being defeased.
As a result, the cash that the securities intermediary receives from the portfolio of
securities is swept, in accordance with the typical servicer’s account agreement, into
a AAA rated money market fund or other permitted investment that earns interest until the
money is needed for a scheduled loan payment. This interest is sometimes referred to as
“float.” Because float varies depending upon interest rates and because the bulk of any
float is earned after redemption of the last maturing security in the portfolio (because
of its size and reductions in the efficiency of the securities market further out on the
yield curve), the amount of float generated by a defeasance portfolio can fluctuate significantly.
generate sufficient cash to make the remaining principal and interest payments?
What is a “par repayment provision”?
Defeasance provisions typically require that all remaining loan payments be satisfied by the principal and interest payments
from the U.S. government securities that constitute the substitute collateral. Consequently, servicers and rating agencies require
the accountant to confirm the sufficiency of the cash flows without regard to reinvestment income (sometimes called float).
The rationale for this approach is that, while the payments on the government securities are predictable and certain, reinvestment income or float
is dependent on future interest rates which are unpredictable and subject to volatility. Theoretically, reinvestment income could be zero or could be
negative if the selected money market fund were to break the dollar as happened with the Reserve Primary Fund in September 2008. Consequently, loan servicers
and rating agencies have always strictly enforced the requirement in the original loan documents that the sufficiency of the collateral be determined
based only upon the principal and interest payments generated directly by the government securities.
Who receives the “residual”?
The original promissory note for the loan may contain
a provision whereby the loan can be prepaid during a stated period (usually three months) prior
to the maturity date of the loan without the payment of any prepayment penalty or premium. In other
words, a loan that may be repaid at par just prior to maturity can be said to have a “par
repayment provision.” Depending upon the language in the original loan documents, a loan may
have no par repayment option at all, it may have a par repayment option that is negated after
defeasance, or it may have a par repayment option that survives defeasance.
A par repayment provision
that survives defeasance can create value in the pledged collateral account, if the loan documents
also require that the defeasance collateral consist of securities sufficient to make all remaining
payments through the maturity date. In such cases, securities and/or cash could remain in the
account after prepayment of the loan.
Can’t the successor borrower agree to share some of the residual with the borrower,
if the residual is estimated to significantly exceed the successor borrower's costs?
Typically, the borrower's loan documents state that all rights and obligations under the promissory note,
as well as the government securities must be assigned to the successor borrower. The defeasance documents are
drafted by the loan servicer's counsel to comply with this and other requirements in the borrower's loan documents.
The defeasance documents state that any float is held for the benefit of the lender as part of the pledged
collateral, until the successor borrower fulfills its obligations under the loan and the loan is
paid in full. At that time, the residual, if any, is delivered to the successor borrower. The
defeasance documents also require that the successor borrower account for the defeased loan and
the securities, file tax returns in its own name, and maintain its status as a special purpose,
bankruptcy remote entity. We understand the reason for these lender requirements is to
minimize the risk that the defeasance collateral could become part of the borrower’s (or its
parent’s) bankruptcy estate.
Moreover, by assigning all rights and obligations under the loan
and defeasance collateral the borrower may be able to fully deduct the defeasance premium (the amount by which
the securities cost exceeds the outstanding balance) fully in the year the defeasance occurs.
For more information on this benefit follow this link
and consult your tax professional. Additionally, the fees charged at the defeasance closing are
intended to cover the costs of assuming the defeased loan (negotiating defeasance documents, and obtaining
enforceability opinion, bankruptcy non-consolidation opinion, good standing certificates,
independent director services, and successor borrower formation, if applicable) but it doesn't cover the
successor borrower’s ongoing expenses for the remaining term of the loan (monthly loan and
securities accounting, annual tax return preparation and filing, annual secretary of state
fees, annual independent director fees, etc.). Therefore, the successor borrower relies
on potential residual to reimburse costs and expenses incurred in maintaining the successor
borrower and the loan for the remaining term of the loan, as well as to provide an incentive to do so.
How do I know if my pending transaction is eligible for a PV Payment?
Additionally, any estimate of the residual value is just that - an estimate. The defeasance document constraints mentioned above limit the successor borrower’s ability to enter into
any sort of arrangement whereby it shares actual residual with the original borrower after the loan
is paid off, even if it turns out that the residual significantly exceeds the successor borrower’s
expenses. In addition to triggering a default under the defeasance documents, there are potentially
significant negative tax implications related to the borrower’s deduction of the defeasance premium
if the borrower (or its parent) were to enter into such an agreement. However, Commercial Defeasance now has access to another alternative for borrowers commencing the defeasance
process. Through a new program, a borrower who engages Commercial Defeasance to facilitate its defeasance
may be eligible to receive a payment at closing that equates to the present value of a percentage of the
estimated future residual (a “PV Payment”).* A PV Payment may avoid the tax, accounting and defeasance document issues associated with
a residual sharing arrangement.
* PV Payments are sponsored by an upstream parent of the successor borrower,
and not by Commercial Defeasance. Commercial Defeasance does not receive residual or have the ability
to share residual with original borrowers. The PV Payment option may be changed or discontinued at
any time, without notice, in the program provider’s sole discretion. Interested borrowers should contact us for details and eligibility requirements. Commercial Defeasance is
not a tax or legal advisor, so you should discuss all tax and accounting implications with your own attorney or accountant.
Interested borrowers should inquire about the possibility of a PV Payment prior to closing.
The successor borrower retains sole discretion to determine
whether your transaction is eligible for a PV Payment, and to determine how much that payment may be.
As prepayment provisions vary from loan to loan, they can only be evaluated by reviewing
the borrower's original loan documents. Therefore, we will need to receive copies of the note, security
instrument and loan agreement before it can be determined whether any purported prepayment rights meet the eligibility
requirements for a PV Payment. There are a number of variables that affect the estimated
residual (loan size, remaining term to maturity, monthly payment date, loan coupon, future market
interest rate projections, discount rates, etc.), so it is important to understand that, while one
loan may not be eligible for a PV Payment, the next loan might be. Note, too, that any PV Payment is based
on an estimate of future value. The actual future value cannot be determined until after the loan is paid in full and will be
lower or higher than the estimate upon which a PV Payment is based.