Elizabeth Murphy looks at the impact of new "high volatility" regulations on the commercial mortgage lending market.
High Volatility Commercial Real Estate (HVCRE) rules regulate banks’ financing for the acquisition, development or construction of real property. Almost 18 months after the rules went into effect, how are these regulatory requirements affecting lenders?
The HVCRE regulations require banks to set aside 50% more cash reserves for a loan that qualifies as HVCRE than for a typical commercial real estate loan. The regulations are difficult to interpret, which makes it difficult to determine if a loan is secured by HVCRE. For example, the regulations allow for certain exceptions to classification as HVCRE but, given widespread uncertainty about how to comply with the nebulous terms of those exceptions, many banks are assuming that many loans for the acquisition, development or construction of real property are HVCRE loans. Consequently, the regulations constrain bank construction lending for property acquisition, development and construction and increase the cost of available loans.
What seems to be the most difficult HVCRE regulatory requirement for banks and borrowers?
Banks and borrowers are particularly frustrated with the duration and inflexibility of some HVCRE regulations. For example, the regulations contain rules requiring borrowers to establish and maintain certain levels of capital investment in the property, not only while construction is ongoing but also until the HVCRE loan is converted to permanent financing or until the loan is paid. Some of the rules, such as those governing how to value land contributed to a real estate venture and restricting distributions even when the property may be cash-flowing after construction, are impractical for many real estate investors. In many cases, the rules will prevent a bank from making a loan to a borrower with a business plan for acquisition, development and construction of a project that is inconsistent with the HVCRE regulations.
Is there any relief in sight for banks and borrowers?
The Mortgage Bankers Association and the Real Estate Roundtable have both reached out to regulators to voice concerns with some of the more ambiguous and restrictive terms of the HVCRE regulations. Unfortunately, to date, there are no further updates or clarifications other than limited guidance provided in the form of Frequently Asked Questions and answers that the regulators published in March of last year. In the meantime, banks and their counsel are continuing to work through the HVCRE regulations and available regulatory guidance to determine best practices.