The IRS issued its new REMIC Regulations and Interpretive Revenue Procedure on Sep. 15 and, as expected, the number of borrower requests for modifications and extensions on commercial real estate loans has already increased. Of course, modification requests had been steadily increasing during the current economic downturn, but the tenor of these requests has changed. Borrowers now are quoting the new procedures directly in support of their requests. Yet, as reported in this column last month, there are limitations other than the tax rules that affect servicers, and modification is not necessarily a given in all instances.

The Commercial Mortgage Securities Association recently issued a white paper addressing questions related to the REMIC rule changes. It would help borrowers to review the CMSA paper before formulating any request for modification of their loans. The ability to modify a loan held by a REMIC depends on the status of a particular loan and its collateral property, as well as the limits contained in the pooling and service agreement that governs how a particular loan is administered.

In some cases, the master-primary servicer may continue to administer a performing loan and conduct certain types of modifications without the consent of the special servicer. But in most instances, the consent and approval of the special servicer will be required and, if there is a significant risk of default, the special servicer will have to be involved. However, in all events a borrower seeking modification of a loan should start with the master or primary servicer who will interpret the loan documents and the PSA in order to determine what procedure should be followed.

The new REMIC rules are more flexible than the previous guidelines and permit earlier loan modifications without incurring adverse tax consequences. But the changes do not allow for an acceleration of transfers to the special servicer, or amend terms of the loan documents or PSAs. The CMSA white paper sets forth the recommended steps a borrower should take in seeking a loan modification.

Generally, a borrower should review loan documents and analyze the condition, performance and outlook of the property that secure a loan before preparing a loan modification request. The request should be in writing and address all factors pertinent to the modification being requested, including, but not limited to, projections, maintenance and improvement requirements and equity infusions that the borrower is prepared to make. Third-party evidence or opinion will be most convincing to a servicer in supporting such a request.

It should be noted that not every request for loan modification or extension may warrant consideration. The main obligation of the servicers is to act in the best interest of the trust. Accordingly, loans that are in monetary default or other significant non-monetary default will face an uphill battle in an extension request situation. The loan obligation, for which the special servicer has to maximize recovery on a net present value basis, may lead a special servicer to the conclusion that foreclosure is better for the REMIC than a loan modification or extension.Finally, two points should be clearly understood before submission of a modification/extension request. First, borrowers must be prepared to bear the cost of their modification and extension requests. They should expect significant extension or modification fees, even if the loan documents are silent on that matter. Borrowers must also understand that processing will take time. Servicers are already inundated with defaulting loans and modification and extension requests that require immediate reaction. A loan extension request for a loan that is not scheduled to mature for two or more years will likely not be considered urgent. Patience is not only a virtue in dealing with servicers, but is also now a requirement.

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