Metropolitan Capital Advisors (“MCA”) recently closed a fixed-rate, permanent loan on mixed-used property for which we were able to utilize a “Master Lease” as a creative way to enhance the value of the property and to give the lender a form of recourse they could underwrite during the term of the loan.
Financing a commercial real estate project based on its rental stream brings many challenges for a property owner. Deficiencies in that rental stream only increase these challenges, whether the deficiencies arise from vacant space, scheduled lease expirations, tenant concessions (such as free rent), or other lease attributes that are scrutinized in the lender’s underwriting process. Some lenders seek to have perceived rental deficiencies covered by requiring a master lease.
A master lease is a lease of all or some portion of a commercial project signed by a creditworthy master tenant to provide an additional or back-up rental stream for the project. The master tenant is typically a principal or affiliate of the borrower entity owning the project, which is the landlord. The master lease is assigned to the lender as collateral.
Master leases can be structured in many ways, but their common purpose is to provide the income stream necessary to support project financing. Some common structures include:
- The master tenant leases the entire project and is deemed to be subleasing space to tenants in occupancy of their space;
- The master tenant leases specific vacant space only, and the master lease terminates with respect to space later leased to tenants in occupancy;
- The master lease covers only the vacant space in the project from time to time so that the master premises “float” to coincide with actual vacant space;
- The master lease covers specific space covered by a lease with an upcoming expiration and takes effect only if that lease is not renewed or the space is released;
- The master lease covers space leased to a tenant currently paying no rent due to a rent abatement period but only during such period.
If the master lease was given as credit enhancement for the loan, in the event of the owner’s default the master lease performs the same function as a guaranty. The lender is looking to the master tenant as a secondary source of repayment after the lender has foreclosed on the project. At that point, the new landlord – the lender or other successful bidder at foreclosure – would seek to collect rent payments due under the master lease as a source to recover its investment.
In our particular refinance transaction, an affiliate of the Borrower master leased a space that was occupied by a new sub-tenant that had limited sales data. After a couple years of consistent rent payment from the sub-tenant, the master lease would burn off. In this case the master lease was used as a “credit enhancement” so the lender could be comfortable that the new sub-tenant could afford their rent.
Structuring a master lease inside a commercial real estate finance transaction can be a complex task involving many variables that require careful underwriting. To further discuss how Metropolitan Capital Advisors can be of service when evaluating the benefits and risks of a master lease, contact any of MCA’s Senior Directors at www.metcapital.com.