Fed proposes permanent extension of real estate debt leniency

The Federal Reserve wants lenders to remain patient with commercial real estate borrowers that struggle to service their debts.

In a policy statement proposed this week, Fed staffers petitioned the Board of Governors to make a series of tweaks to its supervisory policies that would allow financial institutions to accommodate delinquent real estate borrowers and restructure troubled loans without being penalized. This leniency would be applied even when collateral values fall below loan balances — a phenomenon often referred to as being "underwater." 

The policy would remain in effect "through all economic cycles," effectively extending the Fed's "work with your borrower" policy permanently.

Fed staffers noted a timely need for updating and solidifying these policies given upcoming expiration of COVID-era accommodations. They also pointed to ongoing uncertainty in many cities where employers are struggling to attract workers back to their offices. A May report from the Fed on economic indicators found that as of late 2021, 22% of workers still worked from home, down from the 29% seen in 2020, but up significantly from the 7% who did so in 2019.

Empty store
The Federal Reserve is proposing changes to its supervisory rules that would make COVID-era concessions to lenders holding underperforming commercial real estate loans permanent.
Bloomberg News

Just this week, General Motors walked back plans to implement a mandatory three-day-a-week in-office policy for its white-collar workers in the face of significant employee pushback. Like other companies, the automaker adopted a lenient remote work policy in the spring of 2020. Tech companies like Google have run into similar problems as they attempt to bring their workforces back in person. 

In response to this trend, many companies are choosing to reduce their real estate footprints rather than continue paying for unused space. More than half of the 185 employers surveyed by the commercial real estate firm CBRE earlier this year said they planned to cut their office space in the coming three years.

Other challenges that could affect commercial real estate borrowers — particularly those financing new developments or major renovations — include ongoing supply chain disruptions, labor shortages and rising interest rates.

The proposal encourages lenders to work with creditworthy commercial real estate borrowers to address financial hardships regardless of broader economic conditions, modifying a policy first introduced in 2009 that resurfaced in 2020 amid COVID-19 shutdowns. 

"The proposed statement would build on and supersede the 2009 statement, reiterating the need for financial institutions to work prudently and constructively with creditworthy borrowers who are experiencing financial difficulty," the staffers wrote. "While borrowers may experience deterioration in their financial condition, many continue to be creditworthy and have the willingness and capacity to repay their debts."

The statement would also align the Fed's policy on workouts with updated accounting standards that will remove troubled-debt restructuring as a reportable field starting next year.

The proposal was drafted with input from the Federal Deposit Insurance Corp., the Office of the Comptroller of the Currency, and the National Credit Union Administration, all of which introduced similar policy changes in August.

The proposal will be open to public comment for 60 days after being published in the Federal Register.

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