Insurance Broker Letters In Commercial Real Estate Financings: Why Do We Need Them?

Published date03 May 2021
Subject MatterCorporate/Commercial Law, Insurance, Real Estate and Construction, Contracts and Commercial Law, Insurance Laws and Products, Real Estate
Law FirmCadwalader, Wickersham & Taft LLP
AuthorMr William Lo

Insurance is a key and critical element to any commercial real estate financing. After all, such financings are usually limited recourse, such that the properties will be owned by a special purpose vehicle with no other equally valuable assets. In that regard, the lenders will be intent on knowing that the fundamental collateral that supports their debt is protected from destruction, damage, or any other events that could affect the value and income stream generated from such asset.

It has therefore become market standard practice for lenders to ensure that certain protections are provided with regards to insurance, one of which is a condition precedent ("CP") that is required from the borrower: an insurance broker letter. Whilst it is not a finance document, the insurance broker letter can still in some transactions have the potential to elicit significant resources and time in order to negotiate and finalise its terms.

This article looks to explain why broker letters are needed in commercial real estate financings and what we can do to reduce the strain they can cause.

Lender protections

There are a number of key protections that lenders seek with regards to insurance. These include:

  • naming the lender as composite insured or co-insured on the insurance policy in order to provide it with the same legal rights as the borrower;
  • naming the lender as first loss payee to ensure that the insurer would be required to make the payment to the lenders directly, or in accordance with their authorisation and direction (though, this is often subject to a negotiated de minimus amount so that "nominal" payments can be excluded);
  • including non-vitiation clauses to prevent the insurer from attributing non-disclosure or misrepresentation or breach of policy by the insured to the lenders;
  • building in waiver of subrogation clauses to protect the lenders from the insurer "stepping into its shoes" once the claim has been settled; and
  • providing obligations to notify the lender of any matters that could invalidate the policy, such as non-payment of premium.

Lender protections under the facility agreement

The Loan Market Association ("LMA") form of real estate finance facility agreements do contain model clauses for the insurance covenants to deal with the issues addressed above, and these are now well-established clauses that are rarely negotiated at any material level, other than to conform and adapt it to the factual positions relevant to the circumstances of a particular...

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