Most real estate lenders have plans in place for how to stabilize during periods of economic crisis, but risk management during COVID-19 is a whole different beast. Lenders learned many lessons from the financial crisis in 2008 that are now woven into their updated risk management policies. However, the COVID-19 pandemic is unique from previously downturns, and still evolving. Given the uncertain forecast, it is time for financial institutions to evaluate whether their existing risk management policies are sufficient enough to prevent risk exposure in their lending operations.
Our answer is to rely on the data. A data-driven plan is about developing strategies that are based on facts to better predict outcomes. Data developments make it easier for lenders to mitigate risk in important ways, from origination all the way to foreclosure, if necessary. The key for commercial and residential property lenders is to rely on data that are updated and accurate for effective analysis that balances risk and opportunity. While this was true for pre-COVID risk mitigation, it’s especially critical now.
Read on for a data-driven risk mitigation strategy that will help property lenders limit their risk exposure during the COVID-19 pandemic and in its aftermath.
Managing existing loans with modifications
As a lender, it’s likely you have borrowers contacting you to discuss actual or anticipated inability to meet payments. Lenders are having to review borrowers individually in considering modification terms such as a reduction in their interest rate or conversion of an amortizing loan to require interest, a waiver, reduction or deferral of payments. Some borrowers may ask to add investors to their loan, introducing a new set of factors for you to consider.
Agreeing to a borrower’s request requires considering additional properties a borrower and their investors hold that can be used as collateral, as long as those properties exhibit stability. This means reviewing complete owner portfolios, including properties held by LLCs, tax liens, changes in the surrounding area that could impact property value, and much more.
Mortgage lenders and servicers have to be proactive about risk mitigation and review loans that are either non-performing or likely to become non-performing. Federal agencies are offering additional solutions beneficial to both commercial and residential lenders and borrowers. The CARES Act and the Paycheck Protection Program (PPP) offer several protections. We will see how much of an impact it will have on helping commercial borrowers, especially those in retail, stay whole and lenders manage associated risks. For example, the Consumer Financial Protection Bureau (CFPB) and Conference of State Bank Supervisors (CSBS) are working together to help financial institutions work constructively with borrowers affected by COVID-19. Their recommendation is to provide loan modifications that would be viewed as a way to prevent borrower harm, and also to improve loan performance and credit risk.
Also review loans where you are not the only mortgage lender. If it turns out that you need to consummate a workout or move forward with foreclosure, what percentage approval would you need from the other lenders to make it happen? You’ll also have to consider the overall objectives of the other lenders, and whether they are also struggling. Establish a new workout team of a relationship manager, analysts, and attorneys to review the loan with a completely objective eye.
Overall, short-term modifications made in response to COVID-19 for stable borrowers can include relief actions like payment deferrals, fee waivers, easing credit terms for new loans, and extensions of repayment terms. This gives time for borrowers to regroup if they faced a direct impact from COVID-19 and allows them to fulfill their loan agreement.
Managing new loan requests
Lenders also face difficult decisions on how to proceed with new borrower requests and transactions that have not closed yet and are seeking ways to build positive relationships while carefully balancing risk in the dynamic COVID-19 environment. Most lenders will show a preference for customers they already have established relationships with, seeing these opportunities as less risky. It is critical for lenders to use data to support the loan request, whoever they choose to do business with.
It’s important that lenders regularly review principles and documents, and ensure they have complete, updated documents as they continue to navigate through the pandemic. This includes the loan file with any amended documents, with the original title policy and endorsements, income statements, balance sheets, and tax returns for each of the principals. Analyzing documents against current data will help lenders establish borrower risk to then determine what steps should be taken, particularly in the event of defaults.
Determine your risk across all bank loans
Lenders should be continually reviewing residential and commercial property loans to see which could have issues, examining the property conditions behind each loan to understand potential risk. For example, was the property due for upgrades or remediation? Have they been completed, or will they pose too much of a strain on the borrower in the current environment?
With clear criteria for approvals on new borrowers, and data points to identify the potential for default in existing borrowers, lenders will need to review the data to determine updated risk guidelines. Additionally, new planning will be required to handle borrowers who fail to meet the terms of their loan. Certain job sectors, such as hospitality and retail, are clearly more vulnerable now and may require different criteria from other asset classes like industrial or multifamily.
Analyzing data on collateral and individual borrowers will offer a better sense of where risk lies. Review each borrower against COVID-19 status in their specific region, looking at how local governments are handling outbreaks and what the projections are for future outbreaks, business closings, and quarantine orders. Also consider what your portfolio is composed of; how much of it is retail, hospitality, industrial, etc.? It is important to know the concentration of each asset class in your portfolio so that you can make the best decisions. What is the status of your commercial construction lending projects, and are supply chain issues delaying schedules?
It’s also a good time to update environmental due diligence, as property conditions may have changed since your last environmental assessment. Intelligence solutions, like Collateral360, provide insight into current environmental conditions and can show how they’ve changed over a period of time or whether your properties are showing new environmental concerns. You can also order Phase I/Phase II Environmental Site Assessments (ESAs) or other due diligence from your vendors on the platform, and have one central repository for all your property information.
When reviewing commercial properties in your portfolio, lenders should consider the short and long-term prospects, as well as the asset class. Underperforming properties may have the option of transitioning into something more amenable to current circumstances. A property data tool can instantly show what each property in your portfolio is zoned for, allowing you to determine the true value of your property and develop new solutions for vulnerable properties. Property valuation can be challenging during COVID-19 and in its aftermath, but it’s possible to ensure you are valuing properties correctly when looking at the right data sets.
Managing risk through distress
Using the tactics outlined above, you should be able to identify borrowers who are most at risk. While it’s important to maintain open communication and transparency with all of your borrowers, you will want to pay closer attention to those showing a higher risk of defaulting or missing payments.
In the event that a borrower defaults on their loan, review the loan agreement, and make information easily available to the borrower and guarantors. And if the lender ends up owning the property, reviewing property data can aid when trying to sell the property quickly. Using a solution for an online auction can also help lenders speed up the process.
Contact LightBox for data-driven risk mitigation solutions
Despite the challenges wrought by the COVID-19 pandemic, businesses are seeking ways to continue within new parameters. Lenders using the data-driven strategies outlined in this article will be able to reduce their risk and maintain healthy, balanced portfolios.
Contact LightBox to learn how we are helping lenders throughout the country manage risk. LightBox solutions help lenders to easily view and manage their overall portfolio, as well as assessing individual properties. With instant access to data, including complete owner portfolios, property hazards, tax attributes, demographics, opportunity zones, and much more, lenders are able to quickly and easily conduct and update due diligence to determine risk factors.