• CMBS 2.0 Update: The Expanded “Non-Interference” Carve-Out
  • August 22, 2011 | Author: Samuel M. Walker
  • Law Firm: Blank Rome LLP - New York Office
  • One of the most significant changes in the most recent set of CMBS loan documents has been the expansion of the recourse carve-out provisions (a/k/a the bad boy provisions) to include a "non-interference" carve-out. One of the main selling points for CMBS loans has long been that fact that they are generally non-recourse to the borrower and its principals. The only exceptions to the general non-recourse nature of these loans are specifically enumerated bad acts of the borrower or guarantor such as fraud, waste, misappropriation bankruptcy and non-permitted transfers, which depending on the severity of such bad acts would result in recourse liability to the borrower and guarantor (generally a borrower principal) either for the full loan amount or to the extent resulting in a losses to the lender. Although the language of such non-recourse carve-outs are typically heavily negotiated and may vary slightly from loan to loan, the intent behind these exceptions to non-recourse was always understood as being required to protect the lender from the bad acts of the borrowers, its principals and others under its control or common control.

    However, in this last cycle of foreclosures and workouts, many borrowers contested foreclosure proceedings (some in good faith and some clearly not) which contest in some cases resulted in significant delays and costs to lenders. Lenders found that they had no mechanism or leverage to stop a borrower from interfering with its pursuit of remedies and that the current form of recourse carve-out guaranty did not provide any incentive for the borrower to not contest any enforcement actions commenced by the lender (i.e. such contests were not deemed "bad acts" that would trigger personal recourse).

    In order to address such deficiency in the guaranty form, in connection with the new "CMBS 2.0" era, lenders have modified the traditional recourse carve-out guaranty to include a "non-interference" carve-out, whereby the guarantor would agree to guaranty the entire debt (or in certain negotiated circumstances the losses the Lender suffers) if the borrower contests a foreclosure or in any other way interferes with lender's remedies. The belief on the lender's part is that this carve-out will make a borrower think twice before contesting any enforcement proceeding initiated by the lender. An example of a "non-interference" carve-out from a recent CMBS loan is as follows:

    "Any litigation or other legal proceeding related to the Debt filed by Borrower or Guarantor that delays, opposes, impedes, obstructs, hinders, enjoins or otherwise interferes with or frustrates the efforts of Lender to exercise any rights and remedies available to Lender as provided herein, the Security Instrument and/or the other Loan Documents"

    The ramifications of a borrower agreeing to this carve-out are enormous. At its core, a true "non-interference" carve-out prevents the borrower from bringing any defense or claims (including lender liability claims) against the lender and turns the scope of the carve-out guaranty from a bad boy guaranty to a something akin to a so called "good guy" guaranty (a good guy guaranty is a type of guaranty used in a lease setting to prevent defaulting tenants from delaying a landlord's recovery of the leased premises by making a guarantor agree to be liable for the lease obligations of the tenant until the tenant returns the keys and possession of the leased premises to the landlord). In essence, in order to incentivize defaulting borrowers to not delay the foreclosure process, lenders are requiring borrowers to now be personally liable for the loan until such time as it pays the loan off, is foreclosed upon or gives the keys back to the lender through a deed in lieu. As an aside, the "non-interference carve-out" originated from and is more common and more logical in the context of a workout since in that situation the lender does not want to be interfered with in connection with exercising remedies after it just agreed to a workout.

    Lenders are generally unwilling to delete the interference of remedies carve-out from their loan documents. A borrower with leverage might be able to either (i) move the "interference of remedies carve-out" from a full recourse event where the whole debt is due to an actual loss carve-out or (ii) limit this carve-out to a situation where a borrower's claims are made in "bad faith" with the sole purpose of frustrating and delaying lender's exercise of its remedies which would make the clause somewhat more palatable and would require the lender to prove that the borrower was in fact using bad faith efforts to interfere with the lender's exercise of its remedies. Nevertheless, in all cases, a borrower and the recourse carve-out guarantor must be aware of this expansion of liability and realize the impact that it will have on them if their loan goes into default.