"In some ways, borrowers today should do this under almost any circumstances," says Manus Clancy, managing director at New York City-based Trepp. "The market is in distress right now, it makes sense to talk to the special servicer to get the best deal you can."

Clancy says General Growth Properties' success in negotiating more favorable terms helped spur other borrowers to be more proactive. Although GGP's situation was a special case in that the Chicago-based mall REIT had filed for Chapter 11 bankruptcy protection, "others see that and say 'we should at least look at the possibility of getting a loan extension with a maturity forthcoming in the next year, " he states. "It just makes good business sense, especially if you can't refinance or you're supporting the loan out of pocket."

Another factor motivating borrowers is the ever-widening pool of troubled loans, coupled with the wave of CMBS maturities occurring in the next few years. Radnor, PA-based Realpoint expects the CMBS delinquency rate to reach 6% to 7% by the end of this quarter. The ratings agency's watch list includes a large number of loans across all sectors that remain current but have been transferred into special servicing. Meanwhile, the volume of CMBS loans in special servicing continues to grow. New York City-based Fitch Ratings puts it at $74 billion as of early March, and says the average size of the loans has jumped 240% over the past year to $17.2 million.

Looking specifically at the two Bane of America 2007 -vintage CMBS pools that include 575 Lexington, Fitch notes that the top 15 loans in each pool represent an above-average share of the total transaction. Also above the 2007-vintage average for both pools is the percentage of problem loans. Of the top 30 loans in the two pools, nine including 575 Lexington are considered "loans of concern," with three of those already in special servicing as of November 2009. Six of those nine are office.

In a ratings action Fitch took in December for nine classes of Wachovia Commercial Mortgage Trust 2005-vintage pass-through certificates, the only loan that had gone into special servicing was backed by an office asset: Centennial Tower, a 638,363-square-foot property in Atlanta that faced imminent default. Nationwide, the percentage of office loans in special servicing grew by 240 basis points between August 2009 and February of this year, Fitch says.

As of mid-February, Fitch reported 509 office loans totaling $7.5 billion-a smaller dollar amount than hotel, retail or multifamily, even though office comprises the largest share of Fitch rated CMBS at $141.5 billion. Trepp says 7% of office CMBS are in special servicing as of Feb. 28, of the six sectors tracked by Trepp, only industrial loans have a lower percentage.

The fact that office continues to lag other sectors in special servicing is due to the differing circumstances that prevail for each property type. "In hotel, you're just getting drilled-everybody's getting hurt there," says Clancy. "In multifamily, you have a whole host of other issues, including big-name corporate bankruptcies that are spiking the numbers up. Relative to those two, office is a lot more predictable. Longer term, though, "the trend is heading north."

The number of office assets transferred into special servicing will continue to rise as any improvements in office fundamentals trail behind an eventual uptick in the national economy, Fitch says. Because of the long-term nature of office leases, rents and NOI are often the last to rebound.

As an example, Clancy cites the Moinian Group, which transferred 180 Maiden Ln. into special servicing in June 2009, five months ahead of what the developer anticipated as a $292-million maturity default. In December of last year, Moinian announced that the lender group had extended the loan. Similarly, a seven building Younan Properties portfolio in the Dallas and Chicago markets went back to the original lender, Wells Fargo, this past September, seven months after Woodland Hills, CA-based Younan transferred the portfolio to a special servicer as default loomed.

Loan extension seems to be "the modification of choice" at the moment, Clancy says. "We're not seeing a whole lot of debt reduction or rate reduction, but we have seen a number of examples of loans being extended to give the borrower more time to either find refinancing or lease up the property."

A rule change by the Internal Revenue Service last September has made it easier for special servicers to implement such modifications, giving borrowers more incentive to request them. The new regulations allow special servicers to make changes in collateral, guarantees and credit enhancement of obligations, as well as changes to the recourse nature of an obligation, provided the obligations continue to be principally secured by an interest in real property.

Seeking such a modification represents a viable course of action whether the borrower intends to hold onto the office property or make it more attractive for eventual resale. "The goal here is to divert the oncoming train, which is the balloon maturity date," says Clancy. "Everybody's a seller at some point, so both types of borrowers would be equally motivated" to modify the loan. A greater dichotomy, Clancy says, exists among borrowers with "transitional" properties and those that are more solidly grounded. One borrower "is bleeding cash and is just looking for some kind of relief,' he says. "With the other guy, his property is doing okay, it's all leased up and his debt service coverage ratio is 1.3x. He just can't raise enough money to take out his balloon." For a special servicer, that type of loan modification is "pretty much a no-brainer" while the other entails fully understanding the dimensions of the problem and how best to resolve it.

GlobeSt.com News Hub is your link to relevant real estate and business stories from other local, regional and national publications.