Most commercial real estate loans used to be collateralized by the property the debt was buying or refinancing. A borrower was in default if he didn’t pay the loan. That was the good old days.
Now when you sit down to go through the definitions for default on a commercial real estate loan you find out you’re not only responsible for your own potential insolvency, but for the bank’s too. In other words, if the bank becomes insolvent it can call your loan immediately.
If the borrower dies, gets a divorce, has any inaccuracy whatsoever on his tax returns, misses a credit card payment, etc, he can now be deemed in breech of contract even if the loan payments are being made every month on time. It was clear that even though our loan to value was only about 40%, that property will not be sufficient collateral in the event of any kind of default. You’re probably thinking, “You’ve got to be kidding.” I wish I were.
After working through a commercial real estate loan package with my attorney the other day, I looked at my partners and said, “Either we’re on an episode of Candid Camera or this is Saturday Night Live.”
Did I take out the loan? Yes. If I didn’t I couldn’t afford the highly discounted property I wanted. But as I signed the papers I was thinking, “I need to flip this thing and get out from under this ridiculous loan as soon as possible. From now on I only want to live debt free.”
Once this poorly managed property has enjoyed some proper management for a year or so, it will likely be time to sell and take the money and the risk off the table.