I’d like to direct your attention to my ex Dechert partner (he’s not ex, I am), Will Cejudo, and his recent OnPoint about the eponymously-titled Pancake REMIC. (Regrettably, no one is paying me for this, I’ve got to figure out this influencer thing. Nonetheless, Will is a brilliant tax lawyer and a business-friendly one who knows how to get to yes. Moreover, he can actually speak English, not just tax! Shocking, actually.) In any event, Will and I started talking about this Pancake REMIC idea quite a while ago (when he actually was my Dechert colleague) and it’s a terrifically useful innovation. I’ll leave you to the OnPoint for details, but essentially, it is a mechanic that allows a REMIC structure to continue to acquire collateral indefinitely.
As you probably know, the REMIC is supposed to be static and under the rules it can only acquire collateral for 90 days from its start date. The lovely innovation here is that every 90 days, the issuer causes the upstream REMIC to contribute the REMIC’s assets to a new downstream REMIC, thereby refreshing the 90 day acquisition period. Over time, you end up with REMIC on top of a REMIC hence, creating something that looks, in a somewhat metaphysical way, like a stack of pancakes (at least that’s my visual).
Dechert has been using this vehicle in live transactions now for considerable period of time in connection with the securitization of RTLs but it is absolutely adaptable to any mortgage asset (any REMIC-able asset).
The structure will make the use of the REMIC possible for transactions which have previously been consigned to a REIT ownership structure. While there might still be advantages to the REIT structure, the Pancake REMIC will narrow the differences between these strategic alternatives enormously. The REMIC structure provides tax certainty, structural simplicity and replaces many of the quirky features and baggage of REIT status (for example, the inability to sell below investment grade bonds).
And that’s just the baseline use of this new technology. I think there’s more, but there’s some work to be done.
As the Pancake REMIC can be used to acquire new mortgage loans, it might also be adapted to facilitate loan modifications, which for tax purposes are generally treated as giving rise to a new mortgage loan. If the mechanics can be resolved (and this is still to a certain extent TBD), a loan could be modified, even upsized, coupons changed and even collateral changed for process within the securitization vehicle where it will be transferred from its initial REMIC to a new REMIC in the Pancake. These loans would stay inside the securitization structure. This would not impact or require action by the investors.
Finally, think Holy Grail stuff, the Pancake REMIC might be adaptable to the financing of construction loans. As each construction draw is made, it is transferred to the vehicle making the REMIC election. (Note that a construction loan is not even subject to the TMP rules and hence, in need of a REMIC election for a considerable period of time because of the upside down relationship between the size of the debt and the value of the property until it the project is awfully close to completion.)
Sequential bonds could be sold up front based upon as completed collateral and a fully funded loan with the investors agreeing to future fund draw requests over time. Note, we actually did this with CRE CLOs pre-GFC (and that’s not an indictment, this part of the CRE structure worked just fine). There may be significant advantages for banks who are traditionally the construction lenders to swap out rated bonds for construction loans (is that circular?). Such an RBC pickup would be reason enough to investigate the use of the structure. An alternate structure could involve an unfunded prefunded account which might largely get to the same place.
This Pancake REMIC does not take the place of existing structures. It’s additive. Many investors will insist on a static structure. Those who haven’t invested in CRE CLOs might look askance at a transaction where all the collateral is not fixed on the start date (although let’s agree that weirdly, many of these same investors invest in corporate CLOs where there is almost zero visibility in to the collateral…but for some reason, that’s a different story). Again, this structure is additive to what the capital markets can offer. It’s another tool in the toolbox.
While I’m here, I guess I will close by observing that it would be great if we could simply waltz into the offices of our gloriously elected representatives and have them pass sensible legislation modifying the hoary old REMIC statute to be more useful in the real world. Its structure and its DNA derive from notions in circulation at the time the REMIC was originally promulgated in 1986, giving rise to design criteria that didn’t make any sense then and makes even less sense today. Nonetheless, if that’s off the table since said gloriously elected representatives can’t seem to do almost anything except call each other poo head and threaten to have them expelled from the Congress or even arrested, the chance of rational discourse around REMIC modification is probably…slim. Well, that leaves us to our own devices and our ability to innovate. We have done that, we’ll continue to do that, and this is another example. Go out and order those pancakes. Think of the unlimited ability to modify and the application to the construction loan as really good maple syrup.