Refinancing a Maturing CMBS Loan into a HUD Loan

Key points

• Start the HUD process well before the CMBS open prepayment window; at Bravo each of the three HUD stages takes about two months.
• Read the prepayment section of the CMBS loan documents: defeasance, yield maintenance and open periods determine when payoff is economical.
• Servicers have formal payoff procedures with notice periods; a missed notice can push the closing date.
• Loans in special servicing carry extra fees and approvals that need to be in the sources and uses early.
• A short bridge loan often costs less than an extended negotiation with a special servicer, but compare both.

What triggers this scenario

CMBS loans are typically ten-year, interest-only or partially amortizing loans with a balloon at maturity. As maturity approaches, the owner has to refinance or sell. Owners who want long-term fixed-rate, non-recourse debt and intend to hold often look at HUD 223(f), especially for stabilized multifamily properties.

The complication is timing. CMBS borrowers often start refinance planning about six months before maturity, which can be tight for a HUD loan. If the property's financials or third-party reports need work, the HUD timeline can run past the CMBS maturity date.

CMBS payoff mechanics that affect a HUD closing

Most CMBS loans restrict prepayment for most of the term through defeasance or yield maintenance and open for prepayment without penalty only in a window near maturity. Know exactly when that window opens. A HUD closing scheduled a month before it opens may carry a large prepayment cost.

The master servicer handles payoff. The loan documents usually require written notice of prepayment a set number of days before the payoff date, and payoff statements expire, so the HUD closing date and the payoff notice must be coordinated. Reserve accounts held by the servicer (tax, insurance, replacement) are typically released after payoff, which helps the owner but usually cannot be counted toward closing sources unless the lender and title company agree on mechanics.

If the loan is in special servicing

Loans that miss maturity or show imminent default transfer to a special servicer. Special servicers can charge workout and liquidation fees, default interest and legal costs, and they control decisions on extensions or forbearance. Those costs increase the payoff and therefore the proceeds the new loan has to cover.

HUD and the lender will ask about the default. The underwriting focuses on the property's current operations, but defaults and workouts generally need to be disclosed in HUD's previous participation and credit review. Be prepared to explain the cause and how it was resolved.

Sequencing the exit

If there is enough runway, go directly from CMBS to HUD: engage the lender, order third-party reports, submit the firm application, and set closing inside the open prepayment window. If there is not, the options are a negotiated extension with the servicer or a bridge loan that repays the CMBS loan at maturity and is in turn repaid by the HUD loan.

A bridge loan adds cost and a second closing, but it gives the owner control of the timeline and a lender who expects the HUD exit. An extension avoids the second closing but can come with fees, cash management and conditions that make the eventual HUD refinance harder.

Common failure points

Owners frequently underestimate the payoff: accrued interest, default interest, special servicing fees and legal costs together can exceed what the HUD loan sizes to. Cash management or lockbox provisions triggered by a debt yield test can trap cash the owner planned to use for repairs or closing costs.

A proceeds gap is the other risk. If the CMBS loan was sized at a higher leverage than HUD will provide on current income, the owner needs equity or the bridge loan needs a plan for the shortfall.

What to prepare

Gather the CMBS file early, because servicers can be slow to respond.

• Loan agreement, note, any modifications and the prepayment section highlighted.
• Current payoff estimate and the servicer's payoff procedures and notice requirements.
• Reserve account statements and escrow balances.
• Servicer correspondence, watchlist notices and any default or special servicing letters.
• Trailing operating statements and rent rolls that match what the servicer has received.

Where to go next

For bridge loans that cover a gap before a HUD closing, see Bridge-to-HUD financing.

For a comparison of HUD with other permanent loan options, see HUD vs. agency and bank loans.

Related guides: The Bridge-to-HUD Timeline: From Screening to Closing; Planning for a Bridge-to-HUD Proceeds Gap; Rate Risk, Rate Lock and Prepayment in a HUD Exit.

Related terms: What Is a HUD Section 223(f) Loan?; Prepayment Lockout and Penalty on HUD Loans Explained; Previous Participation (2530) Review in HUD Lending.

For portfolio figures by state, metro and program, see the HUD multifamily data hub. Bravo Capital’s record: all 26 HUD firm commitments received since April 2022 have closed, totaling $526.0 million (HUD Closing Scorecard).