Manatt real estate partners Tom Muller, co-chair of the firm's Real Estate & Land Use Practice, and Anita Hsu, spoke to Real Estate Finance Intelligence about the impact that a new rule restricting swaps to unregulated counterparties with $10 million or less in assets could have on commercial real estate borrowers.
As reported by Real Estate Finance Intelligence, many borrowers who own individual properties via special purpose entities could have trouble meeting the requirements to be a so-called eligible contract participant. Muller told the publication that borrowers frequently use swaps to hedge interest rate risk, swapping fixed-rate for floating loans and vice versa depending on where they think interest rates will go.
"The people who put the regulation together were trying to reduce the odds that banks would fail, but the people in our industry are less aware of these unintended consequences," said Muller.
An $8 million property, for example, would be unable to enter into a swap agreement because the special purpose entity's net worth is less than the required amount. "In taking this rule that is fairly complex with a fairly standard real estate transaction, you run afoul of the regulation," Muller said.
Hsu told Real Estate Finance Intelligence that the takeaway is that the market is watching how lenders will implement the regulation, since it will be the lender that is penalized for violating the rules. "This means [lenders] are adding new provisions to loan documents. As such, the borrower needs to pay attention…to ensure that they can satisfy the new requirements," said Hsu.