Lease Enhancement Insurance
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Lease Enhancement Insurance
Lease Enhancement Insurance (“LEI”) protects lenders in credit tenant lease (“CTL”) financings from a lease termination by a credit tenant resulting from a covered casualty or condemnation event or rent abatement from a covered condemnation event.
LEI provides advantages to commercial real estate owners, developers and institutional lenders by enhancing CTL financings.
- The use of LEI in CTL financings allows property owners to transform a credit lease with tenant termination rights for casualty and condemnation events into a Schedule D eligible CTL lease. Given the higher loan-to-value ratios that CTL lenders accept, the owner may increase its financing proceeds compared to a traditional commercial real estate financing.
- LEI protects the lender throughout the term of the loan by ensuring that a covered casualty or condemnation event that would allow the tenant to terminate the lease or abate rent from a covered condemnation event does not result in a loss of the outstanding principal balance of the loan.
- LEI also satisfies certain regulatory requirements affecting U.S.-based insurance company lenders, allowing them to receive favorable reporting and risk-based capital treatment for investments in CTL financings where there are tenant lease termination rights from a casualty or condemnation even without a mandatory tenant payment sufficient to repay the entire loan.
Investors in CTLs are predominantly U.S.-based insurance companies, a few foreign insurance companies and certain public pension funds. U.S.-based insurer investments are subject to oversight by the National Association of Insurance Commissioners (“NAIC”). Under current NAIC CTL guidelines, a credit lease with tenant termination rights for a casualty or condemnation event without a mandatory tenant payment sufficient to repay the loan will not qualify as a Schedule D eligible CTL at origination. LEI is recognized by the NAIC as an acceptable methodology to mitigate these risks.
If structured properly, CTLs receive favorable reporting treatment (“Schedule D”) resulting in a risk-based capital charge for the lender that is lower than the risk-based capital charge for a traditional commercial real estate financing.
How does LEI work? LEI is put in place with the payment of a single premium at the inception of the CTL financing. If the lease is terminated for a covered casualty or condemnation event, the insurance company will pay the lender an amount equal to the lender’s then outstanding principal balance of the loan. If the insurance company pays a claim pursuant to the LEI policy for a lease termination resulting from a covered loss, it succeeds to the lender’s position through an assignment of the loan and underlying loan documents. If rent is abated because of a covered condemnation, the insurance company will pay the lender an amount equal to the present value of the loss suffered by the lender from the reduction in rent which is applied against the loan. When the insurance company pays the claim for a covered rent abatement loss, the claim payment is treated as a protective advance under the loan documents, and at the end of the policy term the insurance company succeeds to the lender’s position through an assignment of the loan and underlying loan documents.
CRE Insurance Solutions brokers LEI coverage for casualty or condemnation or both.
The customers for LEI include lenders, real estate owners and developers, investment and mortgage bankers, and professional services entities, such as law firms and accounting firms.
LEI is available for most commercial real estate property types including: office, retail, industrial, medical and parking garages. Specialty properties are considered on a case by case basis.
LEI is part of a series of policies designed to help property owners, developers, investors, and lenders close critical gaps in insurance protection. Other coverages in the series include: Residual Value Insurance, Shortfall Insurance and Zoning Non-Conformance Insurance.