Many commercial property mortgages already contain clauses allowing the borrower to defer payments if they don't have a tenant. For those that don't, well they should have negotiated better terms before taking out the loan.
I've read elsewhere that while this seems logical, it often isn't possible for commercial landlords as their loan terms are tied to a given rental price.
What if they can't find a tenant. I do not imagine all commercial property is financed with leverage. There will be properties that have paid off their debts. Loan will be recalled if they cannot find a tenant.
I suspect basically all commercial landlords are going to have to consider rent deferrals or outright eating 3-6 months of rent. The alternative very likely could be the majority of their properties simply becoming vacant, which isn't a good business stance for coming out of all this.
Maybe this is an ongoing game for commercial real estate speculators. Get a loan, try to get tenants, if you can't get people to pay full-price, default after a few years?
From what I've read, in the case of commercial lets there's a good reason for this.
The companies that manage these properties acquire/refinance loans based on the value of their assets and the value of their assets is mostly determined by the rent they ask for, much less the rent they are actually getting. This leads to commercial landlords refusing to budge on a ridiculous price that was determined in different market conditions and as a result will opt to leave it vacant.
Taking the lower price would adversely affect their access to financing and could put them under water (they already were) on their loans.
Why these agreement/loans don't take this problem into account to prevent this situation is a total mystery though.
My takeaway (and perhaps I have it wrong too) is that:
1) The bank doesn't have a mortgage on the commercial property, that's the owner/landlord.
2) The bank can tell the owner, "You can't lease this place for less than $100 per square foot".
3) The benefits to the bank from having "this place goes for $100 per square foot" on their books (or, conversely, the negative consequences of not having that one their books) are strong enough to keep the bank locking that rate in place, even if doing so increases the chances of the landlord going bust.
4) Worst self-percieved case for the bank is: "We own a commercial property worth a lot on paper, because on paper it's worth $100 per square foot, which makes it easy to find another buyer."
* All loans are priced based on the paper rental price, among other things. Pretty much no one buys commercial property with cash, so if the rent is lower the next purchaser won't be able to get as big of a loan, and the original landowner will be underwater.
* Posted rents are sticky, in that they are the basis of the negotiation for the next round of rents, and especially so for commercial real estate where leases are multiple years long and landlords often throw in renovation for leasees. Banks would prefer a space be empty rather than lower rent and then you have to negotiate from a lower base, and getting another tenant would mean having to rip out everything you put in for the current tenant at your own cost.
You see similar issues in multifamily where landlords would rather offer you "X free weeks" instead of lowering the actual rent by an equivalent amount.
Given the duration of business leases, it's often more worthwhile to wait for a tenant who's willing to pay "market rate", especially if you own many buildings which can help smooth out any temporary blips in rental income.
My wife and I just bought a small commercial building 6 months ago (great timing). We have already offered rent deferment to our tenants (a restaurant, a bookstore and a few professional offices) with a gradual payback. We are all in this together.
My understand is that commercial real estate loans require additional collateral for lower rents than what was agreed to when the mortgage was created. Building value is basically (monthly rent * constant).Accepting lower than when the mortgage was written will trigger provisions that value the property differently and require the building owner to add principal to get back to 25%.
If lowering the rent by 10k a year lowers the value of the building by 100k, the building owner may have to add 25k that they don't have to keep the building from falling into default. If you have a completely empty building and you accept a lower rent in one of ten units, you could need to put down 250k it of you have many building under one loan they may want millions because of how it changes the loan valuations.
They can - but that requires both parties to the contract to agree on modification.
If I'm a bank holding a commercial mortgage, it's very finely honed to minimize my risk; as part of that, I contractually limit what can be done with the building.
Why would I, as a lending institution, throw that security away for something much riskier? If the emptying out of commercial buildings that we saw during the pandemic accelerated, that might have provided the incentive. But it seems like that trend line isn't going to continue in force.
I think converting high density commercial properties to residential is a great idea in a lot of cities. But ultimately it's going to be done almost exclusively in buildings that are mortgage free.
TL;DR -- The banks demand a certain level of rent and the landlord has no leverage over the bank.
It would be interesting if this sort of covenant was made illegal/unenforceable. The downside to such a move is that it would make banks more cautious about lending on commercial properties, the upside is that landlords would likely optimize for cash flow and that would reduce vacancies. From a public policy perspective I could see it as a jobs creator since these storefronts hire people and create jobs.
It’s not the investor but about the loan. Commercial loans IIRC tie default rates to the last rent charged.
So long as the payment can be made at all, it doesn’t seem like people look that hard if the space is vacant or not. Usually only the ground floor is retail.
The problem is that all the commercial real estate has clauses that you can tack missing rent onto the end of the contract but lower rent adjusts the basis so you have to cough up cash.
This means that it is almost always better to have an empty space than an occupied one that you lowered the rent on--I've seen quite a bit of commercial real estate unoccupied for going on 5+ years now.
This merry-go-round will continue until everything crashes simultaneously.
Owners are not able to cut rent as most commercial financing have covenants which require a minimum lease rate/sq foot. If they cut rent, they could be in technical default and lose the building.
Commercial financing has onerous terms which should be stricken by the government/courts.
What matters in this scenario is that these businesses are under government order not to operate. They are unable to make money. Deferment, then, amounts to a catch-22: pay now and go bankrupt; defer, have finances hampered well into the future, and still go bankrupt; or break the lease, shutter the business, and start up elsewhere. The building owner loses a tenant should any of these scenarios play out, and only receives income in the first (wildly cynical) two.
The proper thing to do would be to either waive rent, ask for a percentage relative to the business that could be completed, or to automatically defer payments if they don't arrive on schedule.
You can understand why some would find it unconscionable to insist on anything resembling business-as-usual during this time. Capital owners should be expected to be active supporters of their community interests. If not, I'm unconvinced that they shouldn't simply be chucked out with whatever charity proffered; what good are they?
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