Property Finance Jargon and Legal Documentation
Monday 14 September 2009
Jonathan Lawrence, Partner, K&L Gates LLP
UK Real Estate Finance Market – 2009 Savills research
 Some 22 banks currently willing to lend, out of
which 10 are German and 8 are British
 £20m now considered “big ticket”
 H1 2009:
 26 deals with a value between £50m and £100m
 63 between £20m and £50m
 64 between £10m and £20m
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Overview
 Pack documentation introduction
 Property finance glossary
 Investment loan term sheet
 Development loan term sheet
 Loan documentation
 Parties
 Provisions
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The “Finance” in Property Finance
 Equity
 Debt
 Senior
 Mezzanine
 Intercreditor
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Borrower(s)
 Borrower
 Trading entity
 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
 Lender may reduce exposure to loan through
syndication or sub-participation (and, before the
crisis, securitisation)
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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
 Intercreditor issues
 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
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Term sheet
Loan agreement
Security documentation (next session)
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
 BUT Quistclose Trust established
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Interest
 Usually based on aggregate of:
 1. Floating rate of aggregate of LIBOR/EURIBOR;
 2. Margin (interest rate) 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
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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/renegotiate terms
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Covenants
 Financial: Interest Cover
 Ratio of net rental income (gross rental income less
certain deductions e.g. insurance premiums, tax)
versus 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
 Gross 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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Conditions Precedent (CPs)
 Prior to advancing funds, L will insist on receiving
certain documents and/or B satisfying other
requirements
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Corporate documentation and authorisations
Financial information
Property documentation and due diligence
Legal opinions
Miscellaneous
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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 the loan
 Often prohibited for B and Obligors to assign rights
and obligations without written consent of Ls
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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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