Financing

Secured lending

Discuss the types of real estate security instruments available to lenders in your jurisdiction. Who are the typical providers of real estate financing in your country? Are there any restrictions on who may provide financing?

The customary security instruments used in real estate financing consist of a real property mortgage over the real property assets together with a general security interest granted by the borrower and the owner of the property (if different). There may also be share security provided by the borrower or property owner’s shareholder. A real property mortgage will grant to the lender an interest in the underlying real property assets. The general security interest and the share security will grant the lender a charge over the relevant assets.

Typical providers of real estate funding in Australia are the banks (both domestic and international), non-bank lenders and overseas funds. Aside from licensing restrictions, National Credit Code requirements and restrictions with respect to the provision of funds from overseas, there are no real restrictions with respect to the provision of funds.

Leasehold financing

Is financing available for ground (or head) leases in your jurisdiction? How does the financing differ from financing for land ownership transactions?

Financing is available for ground leases. The lender will require that the ground lease extends beyond the final maturity date of its facility, and most likely, beyond the likely final maturity date of any refinancing. Termination events are of key importance to the lender in a ground lease financing. If there are substantial termination events included in the ground lease, the lender is likely to require a tripartite deed with the landlord to protect its position and ensure that the landlord cannot terminate the lease without giving the lender the right to step in and cure any defaults by the tenant.

Form of security

What is the method of creating and perfecting a security interest in real estate?

Security interests are created in real estate by executing the relevant security documents for the transaction. A real property mortgage is then perfected by registering the mortgage on the title of the property. A general security interest or specific security interest over, for example, shares, is perfected by registering the interest against the grantor of the interest on the Personal Property Securities Register. With respect to share security, the grantor of the security interest will be required to deposit with the lender its original share certificates together with original blank executed share transfer forms.

Valuation

Are third-party real estate appraisals required by lenders for their underwriting of loans? Are there government or industry standards for appraisals? Must appraisers have specific qualifications or required government or industry certifications? Who is required to order the appraisal?

Any financing of real estate will require an independent valuation of the real estate asset to be provided to the lender. Usually, the valuer who is appointed will have been approved by the lender, as will the instructions given to the valuer. The borrower will usually engage, and pay for the costs of, the valuer, but the valuer will typically extend reliance upon the valuation to the lender. Valuers in Australian must be accredited with the Australian Property Institute.

Legal requirements

What would be the ramifications of a lender from another jurisdiction making a loan secured by collateral in your jurisdiction? What is the form of lien documents in your jurisdiction? What other issues would you note for your clients?

Generally, a lender does not need to be licensed in Australia to make a loan secured by collateral located in Australia. The Foreign Acquisitions and Takeovers Act 1975 (Cth) can technically apply to require approval for a person to take security over an interest in land, but an exemption is generally available to entities whose ordinary business is the lending of money if the interest is held solely by way of security for the purposes of a moneylending agreement.

The mere taking of security over collateral in Australia does not generally result in a lender being liable to income tax in Australia if that lender would not otherwise be liable to income tax in Australia.

However, an Australian borrower borrowing funds from an offshore lender will need to consider the implications of interest withholding tax (IWT). Broadly, IWT is required to be withheld from interest payments or payments in the nature of interest made by an Australian resident to a non-resident. Exemptions are available but, if no exemption is available, the borrower will generally be required to ‘gross up’ to the lender.

Loan interest rates

How are interest rates on commercial and high-value property loans commonly set (with reference to LIBOR, central bank rates, etc)? What rate of interest is legally impermissible in your jurisdiction and what are the consequences if a loan exceeds the legally permissible rate?

Interest rates on commercial and high-value property loans are commonly set either by reference to a margin over the Australian benchmark interest rate Bank Bill Swap Bid Rate (in the bank lending market) or by way of a fixed interest rate (which is more common in the non-bank lending market).

There are no real restrictions on the level of interest that may be charged on loans. However, the interest rate applicable to a particular loan would be relevant in determining whether a loan is voidable in the winding-up of a company.

Loan default and enforcement

How are remedies against a debtor in default enforced in your jurisdiction? Is one action sufficient to realise all types of collateral? What is the time frame for foreclosure and in what circumstances can a lender bring a foreclosure proceeding? Are there restrictions on the types of legal actions that may be brought by lenders?

Mortgages typically set out the actions or situations that constitute default by the mortgagor, the most common of which is failure to pay money by the due date.

When the mortgagor is in default, the mortgagee will typically issue a notice requiring the default to be remedied and giving the mortgagor an opportunity to remedy the default.

If the default is not remedied within the specified time, the mortgagee may exercise its power of sale or commence proceedings in the Supreme Court of the relevant jurisdiction, to seek orders for the outstanding debt and possession of the property. If the mortgage enforcement proceedings are defended, it can take many months to obtain judgment.

As an alternative, the mortgagee may appoint a receiver to manage or sell the property following default by the mortgagor.

Generally, legislation in each jurisdiction requires a lender to sell the mortgaged property before pursuing a guarantor for any shortfall.

Loan deficiency claims

Are lenders entitled to recover a money judgment against the borrower or guarantor for any deficiency between the outstanding loan balance and the amount recovered in the foreclosure? Are there time limits on a lender seeking a deficiency judgment? Are there any limitations on the amount or method of calculation of the deficiency?

Whether a lender is entitled to recover the shortfall between the outstanding loan balance (and permitted additions) and the amount recovered in the sale of the property depends on the terms of the mortgage and loan facility between the lender and borrower. If the lender is entitled to seek to recover the shortfall, legislation in each state and territory imposes limitation periods on the mortgagee’s ability to bring such an action. The terms of the loan documents will usually set out any limitations on the amount or method of calculation of the deficiency.

Protection of collateral

What actions can a lender take to protect its collateral until it has possession of the property?

A lender will usually register a mortgage on the title of the property. A registered mortgagee does not need to take any action to protect its interest in the property until it takes possession of the property. The terms of a mortgage will dictate the mortgagee’s right to collect rents in a default situation.

Following default by the mortgagor, the mortgagee may appoint a receiver to manage or sell the property. Alternatively, a mortgagee may take possession of the property if it obtains orders from the Supreme Court. Once a mortgagee takes possession of the property, it is responsible for the property. Accordingly, it is prudent for a mortgagee in possession to effect insurances in respect of the property.

Recourse

May security documents provide for recourse to all of the assets of the borrower? Is recourse typically limited to the collateral and does that have significance in a bankruptcy or insolvency filing? Is personal recourse to guarantors limited to actions such as bankruptcy filing, sale of the mortgaged or hypothecated property or additional financing encumbering the mortgaged or hypothecated property or ownership interests in the borrower?

A general security deed will provide for recourse to all of the assets of the borrower. A specific security deed or a real property mortgage will provide for recourse only to the assets being secured under that document.

Cash management and reserves

Is it typical to require a cash management system and do lenders typically take reserves? For what purposes are reserves usually required?

This will depend on the nature of the transaction. In investment property financing, the lender may require a blocked account into which amounts are reserved for capital expenditure and maintenance. Generally, a lease renewal reserve account will be required only where the building that is the subject of the finance and the security has one material anchor tenant.

Credit enhancements

What other types of credit enhancements are common? What about forms of guarantee?

Real estate loans in the Australian market tend to be either:

  • fully guaranteed by the sponsors or owners of the borrower; or
  • not guaranteed, in which case the lenders are required to assess the credit on the basis of the loan-to-value ratio and, if applicable, the interest cover ratio, for a completed building.
Loan covenants

What covenants are commonly required by the lender in loan documents?

The covenants commonly required by the lender in loan documents include the following:

  • undertakings with respect to any underlying ‘material documents’ (such as leases) that will require the borrower to enforce its rights under those documents, comply with their terms, and not amend, waive or terminate those documents without the lender’s consent;
  • negative undertakings not to dispose of assets or grant security, incur additional debt, provide guarantees or other financial accommodation;
  • undertakings with respect to insurance, insurance proceeds and damage and destruction; and
  • for an investment property financing, undertakings with respect to maintenance, capital expenditure and leasing requirements.
Financial covenants

What are typical financial covenants required by lenders?

All real estate financings will include a loan-to-value ratio. The borrower will be required to provide a valuation initially and there will commonly be an obligation on the borrower to update the valuation every 12 months and upon the occurrence of an event of default. Real estate financings involving mature assets may include an interest cover ratio to demonstrate ability to service the debt. Financings for commercial buildings may also include a ‘weighted average lease expiry’ covenant to provide comfort to the lender that the lease expiries for the relevant building are evenly spread across and beyond the loan term.

Secured movable (personal) property

What are the requirements for creation and perfection of a security interest in movable (personal) property? Is a ‘control’ agreement necessary to perfect a security interest and, if so, what is required?

Security is created over personal property assets by way of the execution of a security agreement affecting the relevant property and the registration of the security interest on the Personal Property Securities Register. Lenders will typically take control of certain assets. For example, in the case of share security, the lender will commonly hold the share certificates for the relevant shares and executed blank share transfer forms. If a lender is taking security over a bank account that is held with another lender (account bank), then the secured lender will typically require that the account bank enter into an account bank deed with the secured lender to give the secured lender control over the relevant bank account.

Single purpose entity (SPE)

Do lenders require that each borrower be an SPE? What are the requirements to create and maintain an SPE? Is there a concept of an independent director of SPEs and, if so, what is the purpose? If the independent director is in place to prevent a bankruptcy or insolvency filing, has the concept been upheld?

Borrowers are not required by law or lenders to create SPEs. However in Australia it is common for corporate entities to acquire property and borrow for that acquisition using SPEs to protect the assets of the purchaser, as the lender will require that security be given over all of the assets of the borrower entity.