The Guarantor’s Defense — Part 5: Workout Strategy Without Making It Worse

Part 5 of a 5-part series on defending against carve-out guaranty claims in commercial real estate.

When a commercial real estate deal is in distress, the guarantor faces a set of decisions that will define both the outcome of the property and the extent of personal exposure. Those decisions are often made under pressure, without enough information, and sometimes without the right counsel. The result is that sponsors who might have managed through the distress — or at least contained their personal exposure — make choices that actively worsen the guaranty risk.

The Pre-Negotiation Agreement

Before engaging in any substantive workout discussion with the lender, the guarantor should insist on a pre-negotiation agreement — sometimes called a PNA or standstill letter. A pre-negotiation agreement establishes that statements made during negotiations are without prejudice and may not be used as admissions, neither party waives any rights by participating, the lender will not accelerate the loan or file suit for a defined period while discussions continue, and exploration of restructuring alternatives does not constitute a default.

Without this agreement, everything a guarantor says in a workout meeting may be usable against it in subsequent litigation. An oral acknowledgment that the project is insolvent, that certain obligations have not been met, or that reserves were used in a particular way can become exhibit A in the lender’s recourse claim. A lender that refuses to sign a pre-negotiation agreement is signaling that it intends to use the workout process as a litigation preparation tool.

Communication Discipline

During a distressed period, all communications with the lender should be treated as potential litigation documents. This does not mean communications should be deceptive or evasive. It means they should be deliberate. Oral statements should be confirmed in writing to control the record. Internal communications that express frustration, acknowledge intent, or discuss options in candid terms should be made with awareness that they may eventually be subject to discovery.

The Forbearance Agreement: Protection or Trap?

When a default exists, lenders often offer a forbearance agreement: a promise not to enforce remedies for a defined period, typically in exchange for certain borrower concessions. Forbearance agreements typically require the borrower to acknowledge the existence and amount of the debt, confirm that all representations in the loan documents remain accurate, agree to enhanced reporting and lender access rights, waive defenses that arose during the forbearance period, and agree to specific milestones.

Acknowledging the debt in writing may waive defenses to the original loan documents. Confirming accuracy of representations may waive fraud or misrepresentation defenses. A forbearance agreement should be reviewed carefully before signing. In some cases, the better alternative is to continue workout discussions without the formal agreement while preserving the ability to assert all available defenses.

Deed-in-Lieu vs. Litigation

A properly structured deed-in-lieu agreement can include a full release of the guaranty. The borrower conveys the property, the lender accepts it in satisfaction of the debt, and the guarantor is released from personal liability. When it is available, a deed-in-lieu with a full release is often the cleanest exit. The guarantor gives up the property — which may be deeply underwater — and walks away from personal exposure. The release language must be comprehensive, the representations must be carefully reviewed, and the agreement must address any pending or anticipated carve-out claims.

Bottom Line

A commercial real estate workout is a legal event, not just a financial one. Every decision made during the distress period — what to say to the lender, what to sign, what funds to move, what maintenance to defer — is a potential data point in subsequent litigation. Guarantors who approach the workout with that awareness are far better positioned than those who treat it as a purely operational problem.

Exposure under a bad boy guaranty is rarely inevitable. It is the product of specific decisions made at origination, during operations, and in distress. If your project is distressed and you have a carve-out guaranty, the time to engage counsel is now — not after the lender files suit and the paper trail has already been created.

Matthew M. Clarke is a shareholder at Kelley Clarke, PC and Chair of Litigation. He represents guarantors, borrowers, and investors in commercial real estate disputes. This article is for informational purposes only and does not constitute legal advice.