LIBOR’s scheduled phase out at the end of 2021 could have significant ramifications on the commercial real estate market. Currently, trillions of dollars of CRE loans in the US are presently outstanding and based on LIBOR as an index.
That has kept attorneys, like Adam Lustig, Partner, Real Estate Practice Group Leader, Bilzin Sumberg, busy.
“We are counseling and advising clients on what the implications of the phase-out of LIBOR are in new loan transactions that we work on,” Lustig says. “We are trying to anticipate the inevitable and build in some language [in loan documents] to account for what happens when LIBOR phases out.”
Despite the scheduled changes, Lustig says there are still loans – with maturity dates beyond the end of 2021 – being closed out every day based on LIBOR.
“What has historically been in loan documents is language that says that if LIBOR is temporarily unavailable, then we will change the benchmark to X, which frequently is the prime rate,” Lustig says. “That’s intended to account for a temporary blip in the market as opposed to the permanent phase-out of LIBOR.”
Jason Shapiro, managing director of Aztec Group, says a lot of loan documents he has seen had language that accounted for shifting from LIBOR to a suitable alternative. “In new documents coming now, you still see in a large number, at least of the floating rate loans, use LIBOR,” Shapiro says.
When representing borrowers, Lustig says he has been trying to work with lenders on negotiating language, explaining what will happen when LIBOR becomes permanently unavailable. “Lenders have been receptive to working through that with us,” he says. “I think the industry hasn’t quite settled on exactly how this is going to work.”
While the Secured Overnight Financing Rate, known as SOFR, has been identified as the LIBOR replacement in the US, no one knows how that is going to work, according to Lustig. “It’s a very different benchmark than LIBOR is,” he says. “We try to do the best we can to get some language built into the documents to avoid unexpected or bad consequences, which is saying like ‘If LIBOR’s not available, then the loan converts to a prime rate at the index instead of LIBOR.’”
The goal is to reduce as many shocks as possible, such as interest rates jumping 3%. “We build-in language that says when we shift to a new benchmark, that the spread will be adjusted as well so that the all-in rate is substantially the same as it was before LIBOR phased out,” Lustig says.
Some far, clients haven’t seemed phased by the shift. “From all accounts, at least in the business that we are doing currently, it hasn’t been a huge issue,” Shapiro says. “A couple of questions have come up, but it seems, most of our clients and their attorneys and those on the bank side, all seem fairly well versed in how to deal with it when the switch is flipped sometime next year. So, it hasn’t been a huge deal.”