When Does a Warehouse Advance Actually Come Due?

On the earliest of five events, and only one of them is a sale. In a mortgage warehouse loan and security agreement of the secured-lending type, each advance matures on the earliest of 45 days from the funding date, the purchase date when an investor takes the loan, the date the loan goes 60 or more days past due, the date the borrower assigns, sells, transfers, or forecloses it, or termination of the agreement.

Most originators manage to the second of those. The first one is the clock that turns a slow-moving loan into a demand for cash, and it runs whether or not anything has gone wrong.

The agreement examined here is a $30 million facility between First Tennessee Bank and three affiliated originators, dated 1 June 2006, comprising a $20 million committed line and a $10 million uncommitted bulge line. It is an exemplar of the secured-loan warehouse form rather than a statement of current market terms, and every figure below is that agreement’s rather than the market’s.

What is actually being advanced?

Less than the loan, and the formula has three ceilings rather than one.

The advance amount is defined as the unpaid principal balance of the eligible mortgage loan minus all amounts on the HUD-1 to be disbursed to and retained by the borrower. The commitment letter sets the operative cap as the lesser of 100 percent of the net funding amount on the HUD-1, the unpaid principal balance, or 99 percent of market value. The bank has no obligation to advance against a residential loan with an original principal balance above $1 million.

That third ceiling, 99 percent of market value, is the one that behaves like a haircut, and it is also the hook the collateral maintenance provision hangs on.

Is there a margin call, or something that works like one?

Something that works like one, drafted as a demand right rather than as a formula.

There is no margin call mechanism in this agreement in the sense a repo trader would recognise. What there is instead is a collateral top-up obligation: if at any time the value of the collateral, “as determined by Bank with reference to objective secondary market criteria such as, for example, the FHLMC posted rate,” is less than the amount advanced, the borrower must on demand deliver additional collateral or documentation as the bank deems necessary.

Three things follow. The bank determines value. The reference to objective criteria is illustrative rather than binding, since it is introduced with “such as, for example.” And the obligation is triggered by demand rather than by a calculated deficit on a schedule. A borrower reading this provision as equivalent to a repo margin call is reading in a discipline the words do not impose. We have covered the genuinely formulaic version in how a warehouse margin call is calculated.

What makes a loan eligible, and who decides?

The bank, and it reserves the right to change the answer.

Eligible mortgage loan means a residential loan meeting all criteria in a schedule that “may change from time to time at the sole discretion of the Bank”. The agreement splits eligible loans into prime, meaning conforming to FHA, VA, FHLMC, or FNMA guidelines, with an express tolerance for loans conforming to all FNMA guidelines except maximum loan size and debt ratios, and sub-prime, meaning everything else that is still eligible.

Ineligibility arrives through several doors. The bank may require evidence of a rate lock and may refuse an advance where the loan fails lock requirements or investor standards. Documentation that does not conform may render a loan ineligible where it violates an investor lock or affects marketability. Failure to deliver required advance documents within two business days lets the bank refuse to fund, and the bank may waive that without waiving the default. Lock cancellation triggers an immediate notice obligation and a potential default.

A schedule amendable at sole discretion is the same structural problem correspondent sellers face with a seller guide, and it deserves the same treatment: a notice period, and a carve-out for loans already locked or already funded.

Who is holding the note while it is in transit?

A bailee, and the letter that creates that relationship is doing more work than its length suggests.

The bailee letter tells the investor holding the note that it is “held by you as a bailee in possession on behalf of and for the benefit of the Bank, for the purpose of perfecting the security interest of the Bank in such Mortgage Note(s), and subject to the Bank’s direction and control”. Notes held under it must “at all times be segregated from other property owned or held by you”. If the investor buys, proceeds wire to the bank’s clearing account within 21 calendar days; if it does not, the notes go back by overnight delivery within the same window. The investor may not deliver the notes to anyone but the bank, or otherwise deal with them, without the bank’s prior written consent. And the bank’s security interest “shall be deemed to have been released only upon the receipt by the Bank of the full amount of cash proceeds”.

Wet funding runs on the same trust theory at the front end. The borrower certifies in each advance request that it “holds all documents related to the Mortgage Loan funded hereby in trust for and on behalf of Bank until delivered to Bank”.

The practical point for an originator is that the bailee letter is the only thing standing between a shipped note and an unperfected lien, and its terms are set between your lender and your investor.

What counts as a default?

A longer list than the payment covenant, and one entry on it is not a standard at all.

The agreement enumerates thirteen triggers, including failure to perform any agreement, insolvency events, a materially adverse judgment, a materially adverse lien, seizure of a substantial part of the borrower’s property by a governmental authority, dissolution or change in control, the bank’s reasonable determination that a material adverse change has occurred, unconsented assignment of collateral, “the Bank deeming itself to be insecure,” and cross-default to any other indebtedness owed to the bank.

Financial covenants sit alongside: tangible net worth of at least $3 million, net worth of at least 5 percent of total liabilities, and liquidity of at least $1.5 million. Merger, consolidation, substantial asset sale, and management or ownership changes each require consent.

Acceleration is immediate and optional to the bank, without further notice or demand, and the agreement specifies no cure periods.

“Deeming itself to be insecure” is the provision to fight. It is an unreviewable standard sitting in the same list as objectively testable events, and it converts every other negotiated threshold into a floor rather than a test.

Is your warehouse a loan or a sale?

This one is a loan, and the agreement is careful about it.

There is no repurchase obligation and no true-sale language. The structure is a secured lending facility in which the borrower keeps ownership subject to the bank’s security interest, and the collateral assignment provision confirms the pledge is additive rather than substitutional, so that the security interest “shall be construed and expanded to the fullest extent possible”. Where a loan is not sold within the lock timeframe, the borrower must immediately reduce its indebtedness by the advance amount plus interest, unless the bank decides otherwise or agrees to a workout. That is a mandatory prepayment, not a repurchase at a price.

The distinction is not academic. It decides how the facility is treated if your counterparty fails, what the borrower’s estate looks like if you do, and whether the bank’s remedies run through Article 9 or through a contractual repurchase. Any originator carrying more than one facility should know which shape each one is, because they do not behave the same way under stress and the answer is not on the cover page.

What to take from this

Five maturity triggers, a discretionary collateral top-up rather than a formula, an eligibility schedule the bank can rewrite, an insecurity clause that swallows the covenant package, and a pledge structure rather than a sale. Those are the five places an originator’s negotiating capital does the most work on a facility of this type, and four of the five are ordinarily presented as boilerplate.