Commercial Magazine

Bonnie Y. Hochman Rothell, Morris, Manning & Martin LLP

Avoid legal problems during an economic downturn

By Jeff Bond

There is no shortage of legal issues that arise during a commercial real estate deal. Often, they can be exacerbated during an economic downturn, when cash flows can grow tight, the value of collateral can decrease and timelines are delayed. Attorney Bonnie Y. Hochman Rothell, an industry leader on commercial real estate litigation, spoke to Scotsman Guide this past September about the advice she gives borrowers, lenders and originators who are facing difficult economic times.

I always tell loan originators that they have to be particularly careful to not oversell or overpromise.

What are some of the lessons you have learned from the industry downturns you’ve experienced?
If I’ve learned anything from past recessions, it’s that one needs to understand the risks when making a transaction. Past recessions resulted in an uptick in litigation and loan defaults that focused particularly on the construction loan area. These are often more risky loans in the first place. Fluctuating interest rates also create a great deal more risk for borrowers and lenders, which resulted in an uptick in loan commitment breakage disputes.
Many of the legal issues experienced in past recessions could have been avoided or at least minimized if lenders and borrowers were in better communication with one another, and if loan documents were clearer to all participants. One of the things that I litigated quite extensively were broken loan commitments. I also dealt with a lot of loan defaults, construction delays and quite a few bankruptcies. I observed an uptick in lender liability types of claims. Those included breach of contract, negligence, breach of duties, resurrections of lender liability allegations and even tortious interference claims.
So, I think it’s crucial not to oversell a loan product, or make promises or representations as a lender or an owner that you can’t keep. Because much of what I saw was about broken loan commitments. If everyone had used more caution when entering a transaction, we might have had fewer issues. I should also mention that there were several disputes which could have been minimized if parties had complied with their loan documents better, including compliance with notice provisions.
What are some of the main problems loan originators have faced in a recessionary environment?
I always tell loan originators that they have to be particularly careful to not oversell or overpromise. Also, they really need to know who their borrowers and guarantors are. They need to go into the next few months or maybe even a year with wide-open eyes, because there’s often a disconnect between what somebody believes a project’s value is and what that project’s value is really going to be over the next couple of years. Originators also need a clear idea of what their clients’ assets and liabilities are going to be in the upcoming years.
Another problem that can be very costly is project delays. I always encourage our lender clients to build in extension fees to their loan documents, in the event the market shifts so dramatically that the deal is no longer viable. On the flip side, I suggest that originators screen to the highest degree. A borrower may be able to represent that their assets are at a certain level now. But in a few months, those assets may decline significantly.
What advice would you offer to borrowers and lenders?
Borrowers should understand and review their loan documents, particularly their commitments, so that they can try to anticipate what problems might arise. I’ve dealt with a number of borrowers who were caught off guard by a construction loan because they ran into problems that caused the borrower to get into trouble with their lender.
From the lender’s perspective, I urge them to monitor progress and be in communication with their borrowers. I’ve handled many loan disputes where the borrowers were struggling because of construction delays or other problems. The results wouldn’t have been so bad, but because the loan servicers were caught off guard, it became more difficult to try and resurrect the project.
I can’t stress enough the importance of good communication. The better the communication, the more likely it is that the parties are going to trust each other and to work well together. If the parties are communicating openly and not concealing facts, the better the chance they can solve an issue when it first arises.When issues do arise, they should be addressed early on — and where helpful, engage third parties, such as mediators, to assist in resolution before a small issue becomes a threat to a project or loan. ●


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