Policy Issues
Capital and Credit

Roundtable Remains Focused on Maintaining Reliable Credit Capacity, Capital Formations; Minimizing Regulatory Overreach; and Effective Risk Management Tools Vital to Liquidity   

Policy Issues Snapshot:
More detailed information on various Capital and Credit policy issues can be found in recent issues of Roundtable Weekly — our weekly policy eNewsletter that can searched by key word or phrase.


News on various credit and capital issues can be found in recent issues of Roundtable Weekly — our weekly policy eNewsletter that can searched by key word or phrase.

 Federal Reserve Rate Hikes Slow Due to Global Economic Weakness; U.S. Jobs Numbers Improve     

 Cumulative Impact of Regulation

 Dodd Frank Credit Risk Retention Rules Raise Concerns About CMBS Issuance and Credit Capacity

• “Preserving Access to Commercial Real Estate Capital Act” (H.R. 4620) Advances

 Basel III Could Have “Deleterious” Effect on CRE Lending, CMBS Issuance

Fundamental Review of the Trading Book

• Dodd Frank: Volcker Rule Raises Concerns About Capital Formation for Real Estate

 Reforming the Government Sponsored Enterprises (GSEs) 

 Department of Labor Fiduciary Standard Rule: Finalized Rule Expected in April

Long Awaited Lease Accounting Measure Released

Custody Rule and Real Estate Capital Formation

Terrorism Risk Program Extended 

Policy Issues SnapShot 

Federal Reserve Rate Hikes Slow Due to Global Economic Weakness; U.S. Jobs Numbers Improve  
In March, the Federal Reserve held off from raising borrowing costs and scaled back forecasts for how high interest rates will rise this year, citing the potential impact from weaker global growth and financial-market turmoil on the U.S. economy.  The Fed reduced growth expectations for the US economy from 2.4% to 2.2%, signaling only two further interest rate hikes this year.

In future Federal Open Market Committee (FOMC) meetings members will be weighing a weakening global economy against domestic gains in jobs.   Fed Chair Janet Yellen described “a shift” in the appropriate path for policy that largely reflects “a somewhat slower projected path for global growth, for growth in the global economy outside the United States, and for some tightening in credit conditions in the form of an increase in spreads”.

The U.S. labor market added 215,000 jobs in March 2016, down from 245,000 jobs the previous month. Unemployment was 5%, up slightly from February's 4.9%. Ms. Yellen stressed that the labor market participation rate – which measures the number of people looking for work - had also improved, a further sign of a strengthening economy.

Property markets are generally strong. Cap rates are little changed over much of the past year; delinquency and default rates of commercial real estate (CRE) loans and building vacancy rates are the lowest since the financial crisis. Yet, CRE transaction volume dropped a 46% in February 2016, compared to the year earlier period. First quarter CMBS issuance also declined by 35% to $17.2 billion.

Between now and 2018, $205.2 billion of commercial mortgage-backed securities (CMBS) loans come due, with $87.1 billion maturing this year and $105.8 billion in 2017. Maturities scheduled for 2018 drop off to $12.8 billion. Plus, over $200 billion of CRE commercial bank loans also come due over the next two years. So, maintaining adequate credit capacity is vital for CRE.   

> Cumulative Impact of Regulation   
Various legislation and regulations passed and implemented following the financial crisis have fundamentally altered the financial services industry in the U.S. The cumulative effects of these measures are now starting to be fully realized – particularly for CRE credit markets and overall credit capacity.

Also of concern is an apparent contraction in bank lending to commercial real estate — documented in the Fed’s Q4-2015 Senior Loan Officer Opinion Survey on Bank Lending Practices — which is expected to push borrowing costs higher for the industry.

The tightening in bank lending for CRE appears to be a reaction to a Dec. 18, 2015 Interagency Statement on Prudent Risk Management for Commercial Real Estate Lending, warning lenders to reinforce prudent CRE lending risk-management practices amid an increase in many banks’ CRE concentration levels.

Overlapping regulatory changes under Dodd-Frank as well as Basel III also appear to be contributing to the apparent slowdown in banks’ CRE lending — as well as illiquidity and volatility in the CMBS market.  The potential credit contraction could not only be a negative for CRE prices going forward, but could also lead to further problems as the 2006 and 2007 vintage loans reach maturity. 

 Dodd Frank Credit Risk Retention Rules Raise Concerns About CMBS Issuance and Credit Capacity  
Dodd-Frank's risk retention requirement was intended to better align interests of sponsor with those of investors. While the statute requires sponsors to retain 5% of the credit risk on their balance sheets, the language lacks the specificity to define credit risk.

Under the new rules that go into effect on Dec. 24, a third party B-piece buyer is still able to fulfill the risk retention requirement by purchasing a large portion of what is now the BBB- bond, to reach 5% of the deal’s total fair value.  Despite improvements made over the past three years, the final rules are expected to raise the cost and reduce the availability of financing for commercial real estate borrowers – likely in the range of 20 to 45 basis points – and impede overall commercial and multifamily real estate credit capacity.

Under the new regulations, securitized lenders will need to increase their origination spreads, resulting in increased borrowing costs. As a result, it is highly likely that these new regulations could have the unintended consequence of diminishing CMBS loan credit quality, increase borrowing costs, reduce credit capacity and could even price some issuers out of the market.

Despite The Roundtable’s efforts to exempt "single-borrower" transactions from the risk retention rules, the regulators did not provide for an exemption for these types of transactions.  Currently, these transactions are generally not structured with a B-piece. So, under the new rules, single-borrower transactions will be subject to the same risk retention requirements as conduit CMBS.    

“Preserving Access to Commercial Real Estate Capital Act” (H.R. 4620) Advances
With new risk retention rules affecting the commercial mortgage-backed securities (CMBS) market set to take effect at the end of this year, the House Financial Services Committee recently approved legislation that would exempt certain high-quality, single-loan commercial real estate securitizations from Dodd-Frank’s risk-retention requirements – as well as low-risk, qualified commercial real estate loans.

The “Preserving Access to CRE Capital Act” (H.R. 4620) allows for prudently underwritten Single Asset/Single Borrower (SASB) transactions to be considered as qualified commercial real estate (QCRE) loans, a category of loans with a superior historical performance.  As “qualified” loans, SASB transactions would be exempt from the risk-retention requirements and their associated punitive costs.  Additionally, the bill would expand the definition of a QCRE loan to include certain high-performing loans that otherwise would not qualify.

Approved by a bipartisan committee vote of 39-18, the industry-supported bill would also provide more flexibility in how CMBS transactions are structured, in order to better accommodate how investors raise capital and divide risk in the capital stack.

Introduced by Rep. French Hill (R-AR), H.R. 4620 would slightly modify the criteria for commercial real estate mortgages to allow roughly 15% of the best quality loans to qualify as QCRE, thereby exempting them from risk-retention and reducing Dodd-Frank’s unintended negative impact on CRE liquidity.

Working with the Commercial Real Estate Finance Council (CREFC) and others, the Roundtable continues to advance this important “fix” to the Dodd-Frank Credit Risk Retention rules.

 Basel III Could Have “Deleterious” Effect on CRE Lending, CMBS Issuance   
The Roundtable continues to raise concerns with U.S. and international bank regulators regarding the impact burdensome financial regulations could have on bank lending, CMBS issuance and overall real estate liquidity.

In a March 17 comment letter to the Basel Committee on Banking Supervision (BCBS)  regarding their Dec. 2015 “Step-In Risk” proposal, the Roundtable raises concerns about how the measure could hurt commercial mortgage securitization and raise borrowing costs — particularly on top of other Basel, Dodd-Frank policy changes with implications for real estate capital and credit. 

The Roundtable also submitted a comment letter  in July regarding the April 6, 2015, Frequently Asked Questions (FAQs) on the Basel III Regulatory Capital Rule, High Volatility Commercial Real Estate (HVCRE). The letter – addressed to the Federal Reserve, the OCC and the FDIC – raises concerns regarding key aspects of the Basel III Regulatory Capital Rule as it impacts commercial real estate lending and focuses on:

  • Prohibition of Withdrawal of Internally Generated Capital
  • Bank Confusion on Interpretation of the Rules
  • Using “as completed” Appraisal Values for Initial Equity Determination Focuses Solely on Completion, not Lease-up Risk of ADC Loans
  • Recognition of Appreciated Land Value

Although the Roundtable supports the Basel III Rules, we believe the Agencies should take appropriate steps to quickly modify or further clarify certain aspects of the rules related to HVCRE exposures that are addressed by the FAQs.

Without modifications, the consequences of the 150% risk weight under the Basel III Rules for HVCRE exposures will have a deleterious economic impact on commercial real estate acquisition, development and construction (“ADC”) lending conducted by U.S. banking organizations.

Specifically, we raised concerns that the guidance provided by the FAQs in conjunction with the Basel III Rules’ requirements on HVCRE exposures may:  

  • disrupt availability of development credit from banks to the commercial real estate sector;
  • reduce overall credit capacity for commercial real estate development lending in the U.S.;
  •  increase loan pricing to all borrowers, with a likely greater impact to smaller borrowers with less valuable relationships; and
  • add to project development costs even after ADC risk has passed.

The Roundtable, along with eight real estate organizations, in March jointly submitted comments to the Basel Committee on Banking Supervision (BCBS) on a proposed framework for determining risk weights for bank loans to commercial real estate.

The real estate industry groups (which include eight U.S. organizations and one based in Singapore) concluded that certain capital increases proposed by the BCBS — coupled with rules that are not appropriately linked to economic risks — “could have negative consequences for lending to real estate and affected economies.”

The coalition urged further careful study of how the proposed regime would affect commercial real estate (CRE) credit capacity, market liquidity and national economies.

Noting that in this “environment of rapid change,” when financial institutions are “absorbing a great number of [overlapping] regulations” — including Dodd-Frank “risk-retention” rules affecting commercial mortgage-backed securities (CMBS) and the Basel III “Liquidity Coverage Ratio” rule (“Reg AB”) — the March 27 letter said “covered institutions have been approaching regulatory implementation in a spirit of conservatism.”

As the letter explained, “Given the layered interaction of these rules, the impacts on pricing, credit availability, liquidity, and other critical features of the financial system will not be known for years. There is ample evidence to suggest that financial institutions decrease lending in the face of uncertainty about returns, which will have potentially harmful effects on the economy. The merits of additional regulatory regime changes contemplated by the Consultative Document should be carefully weighed against the existing regulatory implementation challenges that U.S. banks are currently facing.” 

Fundamental Review of the Trading Book 
 The  BCBS is also proposing the Fundamental Review of the Trading Book (FRTB) measure that will exponentially increase the risk-based capital requirements for bank trading books, undermine securitization markets and diminish credit capacity. As currently envisioned, the rules could make it unfeasible for any bank to trade in CMBS and other asset-backed instruments. If it becomes unprofitable to trade existing bonds, new issuance could dissipate.

In November comment letters to the BCBS and key regulatory agencies, The Roundtable an its coalition raised concerns about the reduction in global market making capacity and resultant diminution in credit capacity that will result from the proposed FRTB rule.
The letter raised specific concerns about the impact on CMBS issuance: “...the magnitude of the charges will be greatest for securitized products, particularly private label CMBS, for which the proposed treatment is especially punitive... We believe their viability will be threatened if the rules are finalized without significant changes to the proposed requirements.”

The Roundtable and others continue to press regulatory agencies and are raising concerns with members of the House Financial Services and Senate Banking Committees. Congress should encourage policies that provide relief from overly restrictive capital requirements and support measures that would encourage capital formation, balanced lending and investments in the U.S. economy—supporting job creation and economic growth.
>   Dodd Frank: Volcker Rule Raises Concerns About Capital Formation for Real Estate
Intended to reduce the risk exposure of financial firms by removing elements of proprietary trading and sponsorship of private equity, the final rules prohibit insured depository institutions and companies affiliated with insured depository institutions ("banking entities") from engaging in short-term proprietary trading of certain securities, derivatives, commodity futures and options on these instruments, for their own account.

The final rules also impose limits on banking entities' investments in, and other relationships with, hedge funds or private equity funds.  A number of financial companies sponsor real estate private equity funds. The Roundtable has raised concerns that rules will restrict appropriate capital formation/ securitization activity– particularly for real estate. The final implementing regulations for the Volcker Rule were released by the five regulatory agencies last December.

In 2014, the Federal Reserve granted banks two additional years to unwind  private-equity, venture-capital and hedge funds covered by the Volcker Rule, extending the deadline to 2017, from 2015, for banks to draw down investments in such funds.

 Reforming the Government Sponsored Enterprises (GSEs) 
Seven years after Fannie Mae and Freddie Mac were put into conservatorship, the housing finance system has still not been reformed. Despite substantial bipartisan progress made in the 113th Congress, efforts to advance meaningful reforms remain stalled.

Senate Banking Committee chairman, Richard Shelby (R-AL) and the Committee’s Ranking Member Sherrod Brown (D-OH) remain at odds on a clear path forward. As a result, it is not likely that this Congress will be able to reach consensus on meaningful mortgage market reforms.

Successful reform should meet the housing finance needs of the American economy while protecting the taxpayer. The Roundtable encourages lawmakers to build upon successful risk sharing mechanisms and products by employing the existing multifamily finance structures being utilized by Fannie Mae and Freddie Mac.

Department of Labor Fiduciary Standard Rule: Finalized Rule 
The Department of Labor released new rules that would broadly expand which retirement investments are covered by a fiduciary standard and could alter the financial industry. Since U.S. pension funds are a key source of capital for real estate, there is broad concern about how this rule could affect pension related real estate investment and other real estate finance activities.

The final version of the rule— (see Roundtable Weekly, April 8)  arelargely unchanged from the April 2015 draft. The draft rule proposed updating ERISA’s definition of retirement products and expanding the definition of a fiduciary to anyone receiving compensation for providing financial advice. The draft rule also included an exemption that allows the preservation of "common" commission structures but comes with new legal liabilities. 

While the Roundtable supports the DOL’s primary objective of making sure that consumers receive investment advice that is in their best interest,  the rule could have the unintended consequence of limiting client access to financial advice and retirement solutions. Of course, financial advisers have been held to a fiduciary standard that requires them to put their client’s interest above their own since the Investment Advisers Act of 1940.

While the DOL  made some changes to the exemption—specifically the timing and nature of disclosures and the education exemption—these changes are unlikely to make the exemption “workable” for industry.

The issuance of the DOL fiduciary rule creates challenges for asset managers that serve as external managers of non-traded REITs. With finalization of the proposal expected soon, non-traded REITs would become significantly more difficult to sell in retirement accounts, which are estimated at 40% of total industry sales. If so, the asset base for external managers that earn recurring asset management fees would likely be more challenged to grow.

Many sponsors are looking to create new legal structures for non-traded REITs in the form of regulated investment companies (RICs), which may comply with the DOL proposal.  Under the Congressional Review Act, “major rules” must be sent to Congress and the Government Accountability Office (GAO) for review and may not be enacted until 60 days after it has either been received by Congress or published in the Federal Register, whichever is later. So, after the final rule is published, Congress will have 60 days to adopt a joint resolution of disapproval, if it wants to stop the regulation. House Speaker Paul Ryan (R-WI) has vowed to block the rule, although a presidential veto limits Congressional options.

Moving it toward finalization in April  would likely make it effective before the end of the Obama administration next January. Under the proposed rule, firms would have eight months to implement it.   

After significant objections were raised by the Roundtable and numerous other groups, as well as Members of Congress from both parties, the DOL withdrew its initial proposal and stated it would conduct further economic analysis. In February 2015, President Obama announced that the DOL should move forward with its proposed rulemaking. On April 14, 2015, the DOL announced a re-proposal of the rule, which was followed by a period for public comment.

A complementary effort to introduce a similar fiduciary standard across non-retirement savings products was introduced in Dodd-Frank, but is stalled at the Securities and Exchange Commission (SEC).

The Roundtable is now focused on understanding the specific economic impact the rule could have on real estate capital formation, investment and lending.  The Roundtable has established a Fiduciary Rule Working Group to address this important issue.

Long-Awaited Lease Accounting Measure Released
The Financial Accounting Standards Board (FASB) on Feb. 25 released its long-awaited final standard on lease accounting.  For public companies, the new standard takes effect for annual and interim periods beginning after Dec. 15, 2018; for private firms, the standard will go into effect for annual periods beginning after Dec. 15, 2019, and interim periods the following year.

Through the Roundtable’s work with FASB and IASB, progress was made on the treatment for real estate lessors. For most real estate leases, lessors and lessees will both report rental income on a straight-line basis. While this represents a clear improvement over the original proposal for real estate, the concern remains that lessees will seek to reduce their leasing exposure, pushing for shorter term leases without renewal options or contingent rents to minimize the non-cash lease costs.

FASB and the International Accounting Standards Board (IASB) have been working jointly for years to develop a new model for the recognition of assets and liabilities arising under lease contracts as part of the global effort to establish uniform corporate financial accounting standards. Commercial real estate lessors fear that lessees will push for shorter term leases without renewal options or contingent rents to minimize the non-cash lease costs. Such a change could force lessees to shorten the term of their leases.

Working with the coalition, the Roundtable has requested that the new lease accounting standard not be applied to private companies. As stated in a Jan. 29, 2016 comment letter, "the needs of private company financial statement users and the capital formation mechanisms used by those same businesses are much different than their public company counterparts." 

Custody Rule and Real Estate Capital Formation   
Following the adoption of the Dodd-Frank Act and amendments to the rules under the Investment Advisers Act of 1940 (1940 Act) adopted by the Securities & Exchange Commission (SEC), many previously unregistered managers to private funds, including real estate private equity funds, were required to register with the SEC under the 1940 Act.

The SEC has raised questions during the examination of certain registered investment advisors about their compliance with the Custody Rules of the 1940 Act when Real Estate Investment Trusts (REITs) are included in investment structures and the advisors have not obtained and distributed the REIT’s audited financial statements to the REIT’s shareholders (or obtained surprise security counts for the REIT’s investments).

Certain investment advisors include REIT subsidiaries in their pooled investment funds for tax and other purposes. REIT status requires at least 100 shareholders. So, a fund manager typically uses accommodation shareholders to fill in the other 99 slots; they get a preferred return and collect their annual payment but have no concerns about the REIT’s investment performance.
With thousands of these REITs in existence, it is creating a significant administrative burden on existing fund sponsors.  The SEC position will also have a chilling effect on the use of the private REIT structure for future investments which will also impact foreign investment in U.S. real estate.  The Roundtable is working to address this regulatory overreach. 

> Terrorism Risk Program Extended  
In the first order of business for the 114th Congress, the U.S. Senate passed H.R. 26 - the Terrorism Risk Insurance Program Reauthorization Act of 2015 - by a vote of 93-4, following a nearly unanimous vote of 416-5 in the U.S. House of Representatives. The President signed the measure into law on January 12, 2015.

The law extends the federal terrorism insurance program through Dec. 31, 2020, increases the insurer co-pay from 15 percent to 20 percent, gradually increases the program’s trigger from $100 million to $200 million and increases the recoupment amount by $10 billion, to $37.5 billion.   The Terrorism Risk Insurance Act (TRIA) was originally enacted in 2002 and previously extended in 2005 and 2007.

Terrorism risk is a national problem that requires a federal solution. Developing and enacting a long-term solution to the terrorism insurance problem is a top priority for the Roundtable – to ensure adequate capacity, avoid periodic market interruptions and provide the safety markets require.

The law also included a provision exempting companies – "end users" – that use derivatives to hedge against business risk from Dodd-Frank derivatives requirements. Such commercial firms are now exempted from having to post margin on their hedging transactions. Real estate firms employ derivatives to hedge against fluctuations in currency and interest rates and not to speculate. By eliminating costly margin requirements on derivatives for end-users, real estate firms will be able to more cost-effectively manage risk – aiding job creation and investment.

The Real Estate Roundtable supports efforts to promote economically responsible commercial real estate lending that reflects sound underwriting and risk management practices, and rational pricing of economic risk. We continue to urge policymakers to take action that encourages stable valuations, enhanced transparency and sensible underwriting, and support efforts to establish appropriate systemic safeguards—all key factors for a reliable credit system. 


The Real Estate Roundtable supports efforts to promote economically responsible commercial real estate lending that reflects sound underwriting and risk management practices, and rational pricing of economic risk. We continue to urge policymakers to take action that encourages stable valuations, enhanced transparency and sensible underwriting, and support efforts to establish appropriate systemic safeguards—all key factors for a reliable credit system.

(For more information, please email info@rer.org or call 202-639-8400.  For weekly updates on key policy issues affecting commercial real estate, see our eNewsletter  Roundtable Weekly

The Real Estate Capital Policy Advisory Committee (RECPAC) is chaired by Jeffrey Horowitz (Bank of America Merrill Lynch) and David Lichtenstein (The Lightstone Group) and vice-chaired by D. Michael Van Konynenburg (Eastdil Secured).  RECPAC consists of principal members from a broad spectrum of real estate investment, ownership and financial services companies. For additional information on RECPAC issues, please contact Clifton (Chip) E. Rodgers, Jr., Senior Vice President, The Real Estate Roundtable, at (202) 639-8400 or via e-mail at crodgers@rer.org.

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