Recent articles regarding the "loss of documentation" for $1 billion of commercial mortgage loans backing FULBA 98-C2 have drawn the CMBS market's attention to the issue of whether the delivery and ongoing monitoring of underlying loan documents in the CMBS market is a widespread problem. We believe it is. One of the frequent questions from market participants regarding FULBA 98-C2 has been, how could $1 billion worth of loan documents be missing? While the incredulity of the questioners is understandable, it underscores the market's lack of awareness of the convoluted document trail involved in the CMBS securitization process and the role of key players in it.

This report is designed to increase the market's understanding of how this process occurs, the role of key players in it, such as the Loan Seller or Conduit, Trustee, Custodian, the Master and Special Servicers, and in so doing draw attention to this large potential issue in the market. Like the bridges and infrastructure of a municipality, these issues tend to be boring, unsexy, yet critical issues that rarely get any-one's attention until a situation arises. Indeed it has been the exceedingly low to practically non-existent default rates in the CMBS market that mask this underlying problem. Yet given the potential impact of missing loan documents on the ability of a servicer to minimize losses in the case of a loan default, it is critical that the market, rating agencies and the Commercial Mortgage Securities Association (the CMSA) address this problem while defaults are low.

Problems for the Master and Special Servicer

With the number of players transferring documents back and forth, the different processing and sometimes lengthy recording times of differing jurisdictions, combined with varying document reporting quality, the odds of a document being lost, misplaced or lost track of is quite high. Indeed discussions with special and master servicers show that in MOST CASES where they have needed key documents in legal proceedings, one or more documents have been missing. Moreover, they report that while they expect the problem to diminish with 2000 vintage deals as more attention is focused on the topic, the problem is just as prevalent in 1999 deals as in ones originated a few years ago.

The biggest problem with missing documentation for the Special Servicer is that it can slow down the foreclosure process and give the delinquent borrower more leverage. While foreclosure may proceed without a "perfect mortgage loan file", the more documentation diverges from the ideal the longer the process can take due to legal maneuvering. When a commercial mortgage loan is in foreclosure it is most important during the "workout" period for the special servicer to move as quickly and proactively as possible. The longer the delay, the more time the borrower has to channel cashflow from the property into a "war chest", the proceeds of which may be used to tie up the foreclosure process in litigation or bankruptcy in order to gain more leverage and a better deal with the special servicer. The longer the time in foreclosure, the higher the legal costs and the greater the potential for the physical and operational deterioration of the property. In addition, the value of the property may be declining due to adverse market conditions. All of these factors could impact the B-piece buyer.

Potential Implications for CMBS

The potential implications for the CMBS market are obvious. CMBS may have more average life variability than expected (which may or may not be a bad thing) and severities could potentially be higher than anticipated. Whether there is more extension or shortening depends on how an "issue" with a loan is resolved. Tranches could extend should missing documentation cause the foreclosure or workout process to extend beyond the scheduled maturity of the loan while a put of the loans back to the loan seller could shorten the average lives of the bonds. Whether these events are positive or negative depends on whether the bonds are trading at a premium or discount.

A significant put could also have the potentially positive effect of deleveraging lower rated tranches possibly resulting in an upgrade. Indeed, one could even conceive of a whipsaw whereby tranches first extend as delays in foreclosure are encountered only to shorten later if the Special Servicer can put the loans back to the loan seller. The impact on CMBS IOs would be even more dramatic.

To give a sense of just how much a put of the loans could impact a deal, we analyzed FULBA 98-C2, a bond recently in the market's spotlight. As shown, if $1 billion of loans were put back to the loan sellers, most of the tranches which are trading at a discount, would be positively impacted except for the IO. If these tranches had been trading at a premium the impact would have been otherwise.

To the extent that borrowers, aware of these documentation issues, ever "game the market" i.e., being more likely to default on conduit loans than portfolio ones, documentation gaps have the potential to lead to higher defaults. Indeed, while there has been much discussion in the market of why tiering among originators should diminish, the varying quality of originator documentation processes, if not addressed would argue that tiering could increase significantly once again in the case of rising defaults.

Bear Stearns Document Exception

Tracking and Resolution Process

In keeping with its efforts to maintain its focus on quality, Bear Stearns endeavors to track and resolve document exceptions on a systematic basis starting with loan closing and continuing until all exceptions have been resolved. Our process is as follows:

Loan Origination: Bear Stearns acts as the Lender on newly originated commercial mortgage loans, thereby retaining control over recording the original loan documents.


Prior to funding a mortgage loan, we receive confirmation from our closing counselthat all major loan documents have been executed and that legal counsel has received and is holding the original documents, including an irrevocable commitment to issue a title insurance policy. After the loan has funded, closing counsel sends original documents to the title company for recording and other original documents and copies of documents sent for recording to a third-party document custodian which does a file review and produces a periodic document exception report. Bear Stearns reviews the report and notifies closing counsel of document exceptions. Bear Stearns works with counsel to resolve as many exceptions prior to securitization as possible.


Bear Stearns will not close a CMBS transaction without an Initial Certification from the Trustee confirming that the Trustee is in possession of an original note and endorsement to the note (or allonge). Unlike some PSAs in which the Trustee or Servicer is responsible for preparing and/or recording assignment documents into the Trust, Bear Stearns, as Mortgage Loan Seller, is responsible for such assignments. Bear Stearns engages a law firm to record and track assignment documents.Bear Stearns has designated personnel responsible for coordinating resolution of document exceptions among the various parties involved, including Lender's legal counsel, the Custodian/Trustee and the Servicer.


Due to the complexity of the document transfer process, it is likely that the problem of missing documentation in the CMBS market is widespread. Indeed conversations with Master and Special Servicers confirm this. While the currently robust real estate markets and low default rates of CMBS have prevented the issue from affecting the value of CMBS, they have also engendered a sense of complacency among market participants. For surely when defaults and delinquencies increase, if the problem is not dealt with now, so too will documentation problems and their impact on CMBS.

Subscribe Now

Access to a full range of industry content, analysis and expert commentary.

30-Day Free Trial

No credit card required. Access coverage of the securitization marketplace, including breaking news updated throughout the day.