Defeasance vs. Yield Maintenance
Yield Maintenance
- Existing loan is actually paid-off and note is cancelled
- Typically has a minimum prepayment penalty of at least 1% of the loan balance
- No standardization of yield maintenance language
- Complex language leads to conflicting interpretations and inflated premium calculations
- Servicer's calculation is usually binding "absent manifest error"
- A 30-day process involving a substitution of collateral, in which the note remains outstanding
- Not a penalty but a neutral process with the potential to defease at a discount
- High level of standardization of defeasance provisions
- Often less costly than yield maintenance, particularly if the yield maintenance calculation is performed incorrectly or market conditions are ripe for a defeasance discount
Yield maintenance is a prepayment of the loan with cash. The yield maintenance penalty is calculated by the servicer, which can take several weeks from the date it is requested. Yield maintenance language also varies greatly from loan to loan and is subject to the servicer's interpretation. Even if the borrower believes that the servicer interpreted the yield maintenance language incorrectly or chose the interpretation that was least favorable to the borrower, the servicer's calculation may not be challenged absent “manifest error”. While yield maintenance does not have transaction costs
per se, the yield maintenance penalty is typically at least 1% of the loan balance.
Defeasance, on the other hand, is a substitution of collateral that generally takes less than 30 days to complete. While there are a number of third parties to coordinate and a checklist of items to be completed, defeasance provisions are fairly consistent, and the process has been standardized across the industry. Additionally, there is always the possibility that a loan can be defeased at par or even at a discount, if average yields on the portfolio of government securities exceed the interest rate in the note, which is a real possibility over the ten year term of a loan originated at a four to six percent interest rate.
Contact us today... to Defease With Ease ®.