Conditions precedent in real estate finance transactions and the mechanics of drawdown

Conditions precedent (CPs) are the pre-conditions that a lender requires to be satisfied prior to any draw taking place under a facility agreement. Many of the usual conditions precedent for a typical bilateral or syndicated facility agreement will also be applicable in the context of a real estate finance transaction, whether it be a land acquisition and/or development financing.

This guidance note outlines the additional conditions precedent which may apply in:

• • a real estate acquisition finance transaction (where the facility is required to fund the purchase of a single property or multiple properties); and
• • a real estate construction facility (where the facility is required to refurbish an existing building, or construct a new building, to be used for commercial, retail, industrial or residential purposes or for a combination of one or more of those purposes).

See Conditions precedent in real estate finance transactions and the mechanics of drawdown.

Covenants in real estate acquisition facilities

In a real estate acquisition finance transaction, covenants are designed to preserve the value of the property against which the lender is advancing the loan. The finance documents will include both positive and negative (or restrictive) covenants, which impose obligations on the borrower to keep the property in a good state of repair and to limit the borrower’s use of the property. Many of the usual covenants (also referred to as undertakings) for a typical bilateral or syndicated loan facility will also be applicable to a real estate acquisition finance transaction.

The guidance note looks at the additional covenants (including property-specific, information and financial covenants) which may apply in a real estate acquisition finance transaction.

See Covenants in real estate acquisition facilities.

Covenants in real estate development facilities

In a development (or construction) facility agreement, the borrower will borrow money to develop a property (which may it may already own or lease or is acquiring). Therefore, the covenants applicable to real estate acquisition facility agreements often apply equally to a real estate development facility agreement (other than those restricting development), with additional covenants required in relation to the development aspects of the transaction.

Many of the usual covenants (also referred to as undertakings) for a typical bilateral or syndicated loan facility will also apply (in some form) to a real estate acquisition and development finance transaction.

There will also be further financial covenants (eg cost to complete and loan to cost ratio) that will apply to real estate development facilities in addition to those typically specified for acquisition facilities (usually loan to value in nature). These covenants are essential in regulating the conduct of the borrower throughout the life of the project, from both a construction and commercial standpoint and will also cover arrangements (or side deeds) with project third parties, such as builders and major tenants.

This guidance note looks at the additional development-specific covenants which may apply in a real estate development transaction and the key considerations when drafting them.

See Covenants in real estate development facilities.

Bank account provisions in real estate finance facility agreements

In a typical real estate finance transaction, lenders rely on the income generated by the property as the primary source for repayment of the loan. The source of income may include rental income, sale proceeds and any money due to the borrower under other related agreements. Accordingly, lenders will seek to impose controls on how the borrower may deal with the income generated from the property, including:

• • requiring specific bank accounts into which cash income must be deposited;
• • imposing restrictions on the operation of each account; and
• • putting in place security arrangements over the bank accounts.

This guidance note details how each of the above matters are typically dealt with in facility documentation.

See Bank account provisions in real estate finance facility agreements.

Financial covenants in real estate finance

Real estate finance facility documentation will typically include additional financial covenants in order to monitor the value of the property against the outstanding loan, and in the case of a development finance transaction, the progress and cost of the development.

This guidance note outlines:

• • the typical financial covenants contained in real estate finance facility agreements;
• • key considerations when drafting such financial covenants;
• • when and how these financial covenants may be tested; and
• • the typical consequences of breach of a financial covenant.

See Financial covenants in real estate finance.

Representations and warranties in real estate finance

Many of the usual representations and warranties for a typical bilateral or syndicated facility agreement will also be applicable to a real estate finance transaction. In a real estate finance transaction, the lenders will require the borrower to make additional representations in relation to the property addressing the following matters (among others):

• • title to the property;
• • no other interests which may adversely affect the use of the property or the lenders’ ability to take security over the property;
• • compliance with planning and environmental legislation;
• • condition of the property;
• • accuracy of information and reports supplied to the lender in relation to the property;
• • for a development finance facility, further representations will be included as to:
• • ◦ the property development site;e
• • ◦ the costs to complete the development project;
• • ◦ practical completion of the project;
• • ◦ the project design, plans and specifications; and
• • ◦ the underlying project documents and (if any) pre-sales contracts.

This guidance note discusses these property or development project-specific representations and warranties and the key considerations when drafting them.

See Representations and warranties in real estate finance.

Events of default in real estate finance

Many of the events of default for a typical bilateral or syndicated loan facility will also apply to real estate acquisition and development finance transactions. Real estate finance documentation will include additional events of default relating to the following categories:

• • property-related defaults, such as failure to obtain or maintain planning approvals, compulsory acquisition or appropriation of the security property, default under key property documents (sales or leases), non-compliance with environmental laws;
• • construction defaults in a construction project, such as builder default or insolvency, failure to achieve completion, abandonment, damage or destruction;
• • cash flow defaults relating to administration of project cash flows, cost overruns, payment of contractors and operation of project bank accounts;
• • control events, such as change of ownership or control; and
• • cross defaults under project documents.

This guidance note describes these property or development project-specific events of default and the key considerations when drafting them.

See Events of default in real estate finance.