Legal Update
Mar 19, 2020
Forbearance Principles and Practice
In the next couple of weeks, landlords will know who can pay rent. In April, lenders will know which landlords can pay their mortgages. No one knows how long the pandemic and revenue disruption will last. In the interim, a contract of forbearance will serve as a tool to allow a tenant or borrower return to a normal relationship, while allowing the landlord or lender to preserve defaults and delay, rather than compromise, its remedies. A forbearance agreement can also serve as a vehicle for a planned exit and/or an opportunity to modify a lease or loan documents. In the face of an unplanned interruption in revenue, and an uncertain resumption, most parties should craft an agreement with an over-arching goal of preserving the benefit of their bargain. A forbearance agreement should contain:
(a) Acknowledgment by Borrower and Guarantor:
i) of the parties’ relationship;
ii) that no novation or termination is intended;
iii) of the default; and
iv) of the obligations.
(b) Agreement:
i) to forbear from exercising some or all remedies;
ii) to the cost of forbearance (i.e., interest, attorney fees, other); and
iii) to interim modification of the parties’ relationship.
(c) Release(s)/Indemnity(ies):
i) generally in favor of the creditor from debtor and guarantor, often accompanied by indemnity;
ii) releases and indemnities are rarely mutual, but a covenant not to sue may be negotiated; and
iii) always carving out the relationship and forbearance obligations.
d) Compliance:
i) define what on-going reporting and/or additional reporting is necessary;
ii) in an exit plan, set milestones for retention of a broker, marketing periods, sale dates, and consequences;
iii) prohibition on new debt, additional grants of security, payment of guaranteed obligations, distributions to shareholders;
iv) fix deficiencies in original agreements and/or addition of enhanced collateral/security; and
v) separate interim compliance from longer term modification, which should be an amendment to the parties’ existing contracts.
(e) Termination:
i) define the end of forbearance (by date, occurrence or default) and whether further notice is necessary; and
ii) a successful termination will result in the waiver of default and return to normal or modified terms.
(f) Fine Print:
i) forbearance agreements are non-assignable;
ii) chose a forum for disputes and a choice of law;
iii) contain a severability clause;
iv) should be e-mail friendly for signatures and notices;
v) provide for amendments.
A final note: For these elements to align, both parties to the agreement must undertake an honest evaluation of their ability to perform and the value of preserving their relationship. Agreements reached with these evaluations in mind stand the best chance of success.
Our Distressed Situations team will continue to closely monitor this evolving situation and share any best practices.
Other related content:
Key Considerations for Default Notices/Reservation of Rights Letters for Defaulted Commercial Mortgage Loans
