Property Finance Jargon and Legal Documentation
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Transcript of Property Finance Jargon and Legal Documentation
Property Finance Jargon and Legal Documentation
Thursday 11 September 2008
Jonathan Lawrence, Partner, K&L Gates LLP
020 7360 8242
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Overview
Pack documentation introduction Property finance glossary Investment loan term sheet Development loan term sheet
Loan and security documentation Parties Provisions
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Borrower(s)
Borrower Trading entity; or Special Purpose Vehicle (SPV) company?
Single/Multiple Multiple borrowers for multiple properties Cross-collateralisation
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Obligors or Borrower Group
Obligors Guarantees may be required from shareholders in B /
other entities in B’s group Especially relevant where B is an SPV
Sponsor Individual or entity “behind” the real estate
acquisition, B and management of real estate Not usually a party to loan documentation
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The Finance Parties
Lender Lends / Advances the funds Identity of original lender may change during the term
of the loan Lender may reduce exposure to loan through
syndication, securitisation or sub-participation
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The Finance Parties
Facility Agent Day to day administration of loan
Security Trustee Holds security on trust for all Secured Parties Controls enforcement process
Hedge Counterparty B enters into a hedge with respect to all or part of its interest
rate exposure under the loan with the hedging counterparty e.g. fixed-to-floating interest rate hedge
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Documentation
Term sheet Loan agreement Security documentation Hedging documentation Fee letters
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The Loan Agreement
No standard format Long form / short form
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Purpose of the loan
Should always be set out in loan agreement L not obliged to monitor the loan to make sure it is
used for the purpose advanced Quistclose Trust established
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Tranching
Facility may be made up of a variety of loans / tranches
Together they are the facility Each may be used for a different purpose Greater flexibility – different terms
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Interest
Usually based on aggregate of: 1. Floating rate of aggregate of LIBOR/EURIBOR; 2. Margin agreed between L and B (fixed or variable);
and 3. Any Mandatory Cost
Paid on each interest payment date (end of interest period)
Interest period generally 1, 3, 6 or 12 months Interest may be capitalised
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Representations and warranties
Statements of fact made by B or Obligors about certain matters of fact relating to themselves, their status and the underlying real estate
If untrue, L may call an Event of Default Standard reps e.g. that it is solvent, that security
has not been granted in favour of another party Specific reps e.g. property specific concerns re
environmental issues
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Covenants
General General obligations imposed on Obligors Additional covenants for SPV Negative pledge
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Covenants
Property Ensure that property will not fundamentally change
during the term Restrict development, granting of leases etc. Insurance covenant
Application of insurance proceeds Damage Loss of rent
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Covenants
Information Delivery of information Financial statements, annual accounts Proceedings Property reporting requirements (rental income,
tenant details etc.)
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Covenants
Financial: Loan to Value (LTV) Day 1: L obtains credit sanction to lend up to a
maximum percentage of the value of a property Ongoing: Measures the ratio of current market value
of a property against the then principal amount of the loan outstanding
If max % is exceeded due to fall in property prices, B will have to bring the loan into compliance by prepaying proportion of loan/disposing of property
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Covenants
Financial: Interest Cover Ratio of net rental income (gross rental income less
certain deductions e.g. insurance premiums, tax) to B’s interest payment obligations
Test measures the ability of B to comply with its interest payment obligations
B’s interest payment obligations usually serviced from rental income
Can be “look back” or “look forward”
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Covenants
Financial: Debt Service Cover (DSC) Used when loan is amortising Ratio of net rental income received versus B’s
interest and principal payment obligations Can be “look back” or “look forward” Must be more than 1 to ensure B meets interest and
principal obligations under the loan
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Covenants
Financial Remedy a breach of financial covenants by B paying
additional funds into blocked reserve accounts Funds will be deemed to reduce outstanding balance
of the loans (LTV) or to supplement net rental income (Interest Cover and DSC)
May be released if B complies with financial covenants or applied to prepay loan if financial covenants not complied with
Restriction on number of times can remedy a breach in this way
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Events of Default
Trigger events which may mean L cancels commitments and declares all amounts owing and immediately payable - Acceleration
L under no obligation to accelerate loan following event of default – may waive/renegotiate
B often allowed grace period e.g. insolvency of obligor, non-payment of sums,
misrepresentation, breach of covenant, material adverse change
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Term and Prepayment
Term = length of lifespan of loan L cannot prevent B repaying the loan prior to end of
term Prepayment not favourable for L as misses out on
interest, therefore L imposes prepayment fees L may require mandatory prepayment e.g. proceeds
of sale
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Principal
Loans are interest only or amortising Interest only – B pays interest on each payment
date and principal paid as bullet repayment on maturity date
Amortising – B repays specific amounts of principal on regular basis during term of loan
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Payment mechanics
Property Managing Agent Rental income paid into segregated trust
account/held on trust by Managing Agent Managing Agent responsible for paying net rental
income into Rent Account Duty of care agreement – Managing Agent owes L
direct contractual duty of care On interest payment date funds are applied in order
– “waterfall”
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Default interest
Additional interest which accrues on overdue amount in event that B or Obligor fails to make a payment under the loan
Usually around 2%-3% above the interest rate usually payable on the loan
Rate must not be set too high as it may be considered a penalty and non-recoverable
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Security
Legal mortgage Fixed charge Assignment of rental income Floating charge Guarantees Negative pledge
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Legal mortgage
Over specified real estate Transfer of legal ownership from mortgagor to
mortgagee Mortgagor has right to return of property and
payment of any balance after satisfaction of mortgage (right of redemption)
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Fixed charge
All other freehold and leasehold property All buildings, fixture, plant and machinery on the property All future interests in land Benefit of all agreements relating to land Right and interest in proceeds of sale of charged property Amount standing to credit of all bank accounts Book debts and other receivables Goodwill and uncalled capital Right to recover VAT on any supplies relating to charged
property
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Assignment by way of security
Rental income Right to payment under all present and future
insurance policies over any charged property Rights against any tenants of property Benefit of any hedging documentation Rights under any development and acquisition
documentation Benefit of all contracts relating to property
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Other security
Floating charge Over all other assets of B not covered by the other
security Crystallisation
Share charge over shares in B L has opportunity to take control of B Choice to sell B rather than the property
Negative pledge
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Practicalities
Security documentation must be correctly registered (“perfected”) English company: Companies House Non-English company: Slavenburg register Land Registry
Deed of priority required? Governing law – location of assets?
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Guarantees
Especially relevant when dealing with SPV B with no trading history where real estate is sole asset
L should ensure the guarantor enters guarantee as a primary obligor and therefore has to immediately comply with any demand made on the guarantee without L having to first make demand of B
Guarantor likely to seek grace period
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Why is the security package so important?
Security Trustee has certain control over all assets of B
Ideally only security over property itself is needed to recover the principal amount of the loan
Remaining security satisfies L’s underwriting in case the LTV covenant is breached
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Conditions Precedent (CPs)
Prior to advancing funds, L will insist on receiving certain documents and/or B satisfying other requirements Corporate documentation and authorisations Financial information Property documentation and due diligence Legal opinions Miscellaneous
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Corporate documentation and authorisations
B and any Obligors must have taken necessary corporate action and obtained necessary approvals inc shareholder approval where necessary
Includes board minutes and directors’ certificates attaching constitutional documents
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Financial Information
L likely to insist on seeing full details of any equity, shareholder loans and other finance are received before any loan is made
L will require copy of pro forma balance sheet of B (in the case of an SPV) together with a sources and uses statement detailing how the loan advance, any shareholder loans, other finance and any equity is to be utilised
Evidence that bank accounts have been opened
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Property documentation and diligence
Report on title/certificate of title Details of any leases and tenants Copies of title documents Insurance details Physical inspection of property Valuation/structural survey/environmental report
(addressed to the Finance Parties)
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Legal opinions
Provided by law firms from all relevant jurisdictions Jurisdiction of incorporation of each Obligor and
governing law of any Finance Document Addressed to Finance Parties Confirm e.g. that Obligor exists and has legal
capacity to enter into Finance Documents Opinion provider will often attempt to limit reliance
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Miscellaneous
Evidence that L’s fees, costs and expenses in connection with transaction are paid upfront - usually deducted from gross advance
Deal specific CPs may be required e.g. documentation re any development or capital expenditure works
Sweeper CP – “any other documentation or evidence required by L”
If multiple drawdown is permitted certain CPs may be required for each drawdown
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Utilisation / Drawdown
Specific procedure for drawdown Notice to lender required Likely that initial drawdown must be made during an
agreed availability period Overall number of drawdowns likely to be limited CPs must be satisfied prior to drawdown
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Assignment, transfer and Qualifying Lenders
L usually reserves right to freely transfer its interest in the loan provided that B does not incur any tax liability on its interest/other payments due to change in status of transferee – “Qualifying Lender” concept
Crucial that L can assign interest freely if it intends to syndicate/securitise the loan
Often prohibited for B and Obligors to assign rights and obligations without written consent of Ls
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Tax
“Gross-up” obligation on B Where L is a Qualifying Lender, if any amounts paid
by B are reduced because withholding tax is imposed, B will have to gross-up so L receives amount it would have done notwithstanding the deduction of tax
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Amendments and waivers
Amendment usually allowed with written consent of Majority Lenders and Obligors
Some amendments e.g. a decrease in margin will require consent of all Ls as they fundamentally affect the loan terms
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