Several relics of the 2008-2010 financial crisis have returned to the commercial real estate sector as distress in the market picks up and lenders and borrowers look for solutions to loans that are in or near default.

The practice of amend-and-extend is trending once again, fueled by the steep increase in interest rates, vacant office and retail locations, and a seemingly settled shift to hybrid work arrangements in major metropolitan areas. Some market participants have even settled on a new motto — "Survive to '25" — to describe the revival of amend-and-extend and pushing back of the forthcoming maturity wall.

In recognition of the growing trouble with CRE loans, and to proactively encourage solutions to problems in the market that could cause ripple effects across the banking industry and broader economy, U.S. regulators recently published guidelines outlining how various actions that financial institutions take vis-à-vis workout solutions will affect loan classifications.

Not surprisingly, loan accommodations that rely upon amendments and extensions of maturity dates are prioritized.

Amend and Extend

Traditionally, as a loan facility nears maturity, a borrower may seek to extend its existing loan or refinance by entering into a new loan that pays off the existing loan. However, if a borrower is in financial distress or its industry is affected, it may have difficulty in refinancing the loan. Instead, the borrower may seek an extension of the existing loan.

"Amend and extend" colloquially refers to a debt restructuring measure agreed to between financial institutions and borrowers, typically involving an extension of the maturity term of the loan, sometimes in exchange for more favorable terms for the financial institutions, e.g., principal paydowns, equity infusions, amendment fees, higher interest rates, additional reserves, additional collateral.

During the Great Recession, financial institutions heavily utilized such amendments and modifications to prop up underperforming borrowers and avoid write-offs of defaulting loans.[1]

Now, lenders and borrowers are contemplating extending loan maturity dates to 2025 or later in the hopes that the additional term will allow sufficient time for interest rates to fall or at least stabilize, occupancy rates to rise and property values to recover enough to allow for a more successful sale or refinancing.

Case in point: Barclays analysts recently noted that the volume of amend and extend activity in leveraged loans has jumped to record highs, explaining that "[CRE] market participants' concerns (about defaults) have been largely alleviated after the first half of the year because of a concerted effort from loan issuers to reduce upcoming maturities… In addition, amend-and-extend activity has played a significant role in the reduction of the nearest-dated portion of the maturity wall in 2023."[2]

Regulatory Guidance for Lenders

The increase in workouts during the Great Recession employing the amend-and-extend strategy led regulators to issue the 2009 Policy Statement on Prudent Commercial Real Estate Loan Workouts on Oct. 30, 2009.

The regulators aimed to "promote supervisory consistency, enhance the transparency of CRE workout transactions, and ensure that supervisory policies and actions do not inadvertently curtail the availability of credit to sound borrowers."[3]

The initial guidelines sought to allow and incentivize financial institutions to implement true loan workouts to creditworthy borrowers by providing guidance to limit the potential criticism from regulators and encourage lenders to proceed with workouts with the regulators' blessing.

Fast-forward to 2023. Recognizing the potential systemic risk to the banking system and the broader economy that the growing distress in the CRE industry may have, the 2009 statement was recently refreshed and updated by regulators from the Office of the Comptroller of the Currency, Board of Governors of the Federal Reserve System, Federal Deposit Insurance Corporation and National Credit Union Administration.

The final 2023 Policy Statement on Prudent Commercial Real Estate Loan Accommodations and Workouts released on June 29 supersedes, though remains generally consistent with, the 2009 statement and is relevant to all financial institutions the regulators supervise.

The final statement is a culmination of existing supervisory guidance and is intended to be a reference source for lenders to utilize as they evaluate loan accommodations and workouts with borrowers during times of financial stress, specifically with respect to risk management, loan classification, regulatory reporting and accounting considerations.

The final statement represents a comprehensive source for lenders to "work prudently and constructively with creditworthy borrowers during times of financial stress."[4] In particular, the final statement reaffirms two key principles.

1. Lenders that implement prudent loan accommodations and workout arrangements will not be subject to regulatory criticism, even if the arrangements result in modified loans with weaknesses that result in adverse classification.
2. Modified loans to borrowers with the ability to repay their debts on renegotiated but reasonable terms will not be subject to adverse classification solely because of the value of the underlying collateral is less than the outstanding loan balance.[5]

When lenders agree to amend and restructure the terms of loan agreements, the final statement clarifies that any such amendment should prioritize assessment of the borrower's ability to repay the amended loan through consideration of cash flow potential, relevant market considerations on a state and local level that may influence repayment prospects, and repayment support from guarantors.

A new appraisal may also be helpful to the lender's analysis. In other words, lenders should approach potential workouts with consideration of guarantors and borrowers on a case-by-case basis and not rely on a process that adversely classifies all CRE loans merely because they are part of the broader distressed CRE environment.

In the case of income-producing properties, the final statement provides that examiners will evaluate a variety of factors, including current and projected vacancy rates, effective rental rates or sales prices and lease renewal trend.[6]

Consideration of these factors will be relevant to the regulators' supervisory examinations and, if reasonably considered, support a nonadverse classification by the regulator. The final statement includes Appendix 1 with hypothetical examples of how examiners would classify loan accommodations based on a variety of factors and should serve lenders well as they navigate the rapidly evolving CRE market.[7]

The exemplar scenarios reflect various workout structures and loans across property types and are "designed to demonstrate an examiner's analytical thought process to derive an appropriate classification" and for evaluation purposes.[8]

Lender Considerations

Lenders should consider refreshing their internal process to CRE loan amendments consistent with the final statement and, where appropriate, negotiate workouts that attempt to conform to the current financial and future status of borrowers and guarantors.

In short, the final statement encourages lenders to work with creditworthy borrowers with viable projects or developments that are willing to engage in good faith, realistic negotiations.

Specifically, lenders should consider becoming even more proactive in monitoring existing loans and creating sound business and accounting practices in evaluating borrowers' requests for loan accommodations and workouts.

Generally, lenders should strongly consider engaging borrowers in financial distress and, where possible, do so as early as practical, before a looming maturity date becomes an event of default, and work toward a mutually beneficial solution for both parties.

Regulators anticipate that lenders will first attempt to create short-term accommodation for creditworthy borrowers under financial stress; if the short-term solution fails, then the lender and borrower can look to a longer-term workout or restructuring.

Solutions may not always be possible, and the final statement makes clear that is to be expected. From a classification perspective, lenders continue to have the obligation to analyze each loan situation individually to determine the best solution for each particular lending situation.

A Collaborative Approach Going Forward

Lenders' proactive engagement with borrowers to determine how best to structure a potential workout could be the best solution for both parties if, after transparent discussions and a fresh evaluation of a borrower's and guarantor's financial condition, an amendment of the loan's terms and extension of the repayment period would not result in an adverse classification, an assessment made easier through leveraging the myriad examples in the final statement.

Lenders should maintain accurate and up-to-date information for each loan, i.e., request updated borrower financial information on a regular basis and undertake an audit of the institution's policies on managing such information to ensure the information is readily available.

The recent guidelines make clear that while amendments and workouts are strongly encouraged, such restructurings are not the only or reasonable approach depending on the specifics of the relationship.

Lenders must still justify their loan classifications based on their review of borrowers' financial information and a holistic approach to restructuring loan terms.

While the ultimate determination of how best to address maturing loans held by struggling borrowers may vary, the final statement provides a useful, practical and timely set of guidelines to approach loan workouts amid evolving distress in the CRE industry and without the punitive results of adverse classifications.

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Jaclyn Grodin is counsel and Muryum Khalid is an associate at Goulston & Storrs PC.

The opinions expressed are those of the author(s) and do not necessarily reflect the views of their employer, its clients, or Portfolio Media Inc., or any of its or their respective affiliates. This article is for general information purposes and is not intended to be and should not be taken as legal advice.

[1] PLC Finance, Loan Investors Say Amend & Extends are "Amend & Pretend" Amendments, Practical Law Legal Update 7-386-6241 (July 17, 2009) (Also noting this practice was negatively impacting investors.).

[2] Tracy Alloway and Joe Weisenthal, It's the Return of Extend and Pretend, Bloomberg: Odd Lots, June 16, 2023 (https://www.bloomberg.com/news/newsletters/2023-06-16/it-s-the-return-of-extend-and-pretend).

[3] 2009 Policy Statement on Prudent Commercial Real Estate Loan Workouts, 74 Fed. Reg. 209, (Oct. 30, 2009) [FDIC, Letter FIL-61-2009, Oct. 9, 2023, (https://www.fdic.gov/news/financial-institution-letters/2009/fil09061a1.pdf)]

[4] Policy Statement on Prudent commercial Real Estate Loan Accommodations and Workouts, 88 Fed. Reg. 128, 43115 (July 6, 2023)

[5] Id. at 43116.

[6] Id. at 43122.

[7] Id. at 43119, 43125-43132.

[8] Id. at 43125.