Commercial Real Estate Defeasance Guide

1. What is Defeasance?

A loan defeasance is a borrower right established by the loan documents. As long as borrowers execute the proper process, their defeasance cannot be declined by their lender or servicer.

Defeasance is the exchange of one form of collateral for another. This specialized financial transaction is especially prevalent in the commercial real estate industry where commercial mortgage backed securities (CMBS), otherwise known as conduits, have grown increasingly popular.

A defeasance allows the original collateral (commercial property) to be released from the mortgage and replaced with a portfolio of securities (defeasance collateral). These securities are structured to produce enough cash to cover all remaining monthly debt service payments on the loan through maturity, allowing the borrower to exit the property without triggering a prepayment penalty in the traditional sense.

2. When Can I Defease My Loan?

On most loans there is a lockout period of 2–3 years from the date the loan closes, during which defeasance is not permitted. After the lockout period expires, defeasance is typically available for the remainder of the loan term up to a few months before maturity.

The exact lockout period and any other timing restrictions are specified in your loan documents. These provisions can vary significantly from loan to loan, so it is important to review your note and loan agreement carefully. Please feel free to contact us if you have any questions about your specific loan.

3. How Much Does a Defeasance Cost?

The largest component of defeasance cost is the price of the securities portfolio itself, which is driven by current Treasury rates. In a low-rate environment, securities are expensive (you need to buy more of them to generate the required cash flows), and the overall defeasance cost is higher. In a high-rate environment, securities are cheaper, and defeasance costs decline.

Beyond the securities cost, third-party fees — consulting, legal, accounting, and custodian — typically range from $50,000–$80,000 depending on the complexity of the transaction. A quick estimate can be generated using our calculator. Our analysts can often structure special arrangements for individual loans depending on your loan terms and servicer, so for the most accurate estimate, please contact our offices.

4. What Parties Are Involved?

Defeasance is a legal-heavy process that involves coordination among a number of parties. AST manages all of these relationships on your behalf, acting as the central point of contact throughout the transaction. The parties typically involved include:

• The master servicer (the administrator of the defeasance process)
• Broker-dealers (who source and price the securities portfolio)
• An independent accountant (who certifies the sufficiency of the collateral)
• A successor borrower entity (the legal holder of the securities portfolio)
• Rating agencies (in some transactions)
• A special servicer (if required by the loan documents)
• An escrow agent
• Servicer's legal counsel, your counsel, and successor borrower counsel

5. Why No Preferred Broker Dealer?

Unlike some competitors, AST does not maintain a relationship with a preferred broker dealer. Instead, we shop your defeasance securities across Wall Street to obtain the best available price from multiple dealers. This open-market approach consistently produces lower securities costs for borrowers.

A preferred broker dealer arrangement creates a potential conflict of interest — the advisor has a financial incentive to route business to one dealer rather than find the most competitive price. By remaining independent, AST's only interest in the transaction is ensuring it is smooth, cost-effective, and transparent for the borrower.

6. How Long Does It Take?

A standard defeasance process takes approximately 30 days from engagement to closing. This timeline accounts for servicer approval, legal document preparation, securities structuring, accounting verification, and escrow funding.

AST is often able to tailor the closing timeline to the client's needs. If your sale or refinance requires an expedited closing, we can frequently complete the process in less than a week when circumstances require. Early engagement gives us the most flexibility to meet your timeline.

7. How to Get Started

Once you have confirmed your loan is past the lockout period and you are ready to proceed, initiating the defeasance requires just a few steps. AST manages all third-party coordination from this point forward.

Initiation steps:

1. Submit an executed Defeasance Notification Letter to the servicer
2. Submit the Defeasance Deposit to the servicer
3. Schedule a kickoff call with Servicer's Counsel, Borrower's Counsel, and AST

Borrower deliverables checklist:

The following items are required from the borrower during the process. AST will guide you through each one and confirm timing requirements.

• Title insurance commitment
• Defeasance document approval
• Borrower's legal opinion
• Organizational documents
• Funds disbursement authorization form
• Final payment arrangements
• Responsive email approving final defeasance documents and disbursement instructions

Throughout the transaction AST manages communications among all third parties and handles preparation of the defeasance portfolio, the accountant's verification report, and custodial account setup behind the scenes.

8. Can I Use My Own Attorney?

Yes, and it is recommended. You should retain your own attorney to represent your interests in all legal transactions that take place during the defeasance process. Defeasance involves significant legal documentation, including the defeasance agreement, successor borrower formation, and transfer documents. Having independent counsel ensures your rights are protected throughout.

9. Can I Use My Own Accountant?

Yes. It is recommended that you consult your own accountant to advise you on the tax and financial implications of defeasance specific to your situation. Note that the loan documents also require an independent public accountant — separate from yours — to provide a verification report certifying the sufficiency of the defeasance collateral. AST coordinates this third-party accounting opinion as part of the process.

10. What is the Defeasance Residual?

There are two types of ‘residual’ value potentially created in a defeasance account, and understanding them can meaningfully affect the net cost of your transaction.

Float:

Float is the most common residual. It is the interest earned by cash sitting in the defeasance account for the short period between when a security matures and when that cash is applied toward the next loan payment. Although the securities portfolio is structured to be as efficient as possible, it is rarely possible to find securities that mature on the exact same day as each scheduled loan payment — the resulting idle cash earns interest, which accumulates in the account.

Par Repayment Provision:

Some loan documents include a par repayment provision that allows the loan to be prepaid at par (without penalty) several months before maturity. This provision means the securities portfolio only needs to fund debt service through the par repayment date — not all the way to maturity — which can reduce the required portfolio size and save the borrower several months of interest payments. Depending on the loan size and interest rate, this can make the difference between a defeasance being affordable or not.

11. Can the Residual Be Shared?

Yes. AST pioneered the sharing of defeasance residual with the original borrower in 2006 — at a time when no competitors offered borrowers any portion of this value. Rather than retaining the residual through the successor borrower entity, AST structures transactions so that the borrower receives a share of both the float and par repayment savings.

This residual sharing often meaningfully reduces the net cost of the defeasance. For a complete breakdown of the residual available in your specific transaction, please contact our office.

12. Roles of Each Third Party

13. Glossary