Yield Maintenance vs Defeasance: The Two Dominant CRE Permanent Loan Prepayment Structures

When Yield Maintenance Is the Right Call

Yield maintenance is the default prepayment structure on agency multifamily executions and is the right structure when the borrower values simplicity, does not anticipate a sale scenario where loan assumption adds value, and is originating in a rate environment where a near-zero YM exit is plausible within the planned hold period.

• Agency multifamily execution where yield maintenance is the standard structure and defeasance is not offered as an alternative
• Sponsor with a long planned hold of 7 to 10 years who expects to exit near or after the open window with minimal prepayment cost
• Borrower who wants a simple, calculable exit cost with no third-party consultant dependency or 30 to 45 day defeasance closing timeline
• Rising rate environment at loan origination where the coupon is locked at a relatively low rate, and the borrower expects Treasury yields to rise above the coupon before the planned exit date
• Portfolio loan or life company loan where yield maintenance is the negotiated structure and step-down is not offered
• Refinance scenario, not a sale, where loan assumption by a third party is not relevant and a clean payoff is the only exit path

How to Choose Between Yield Maintenance and Defeasance

The choice between yield maintenance and defeasance is largely made for you at the time of execution selection, not at prepayment. Agency multifamily loans are almost universally yield maintenance. CMBS conduit and single-borrower loans are almost universally defeasance. Life company programs offer both, and on life co loans the structure is negotiable at origination. If you have a choice, the decision turns on three inputs: your planned hold period, your rate-curve view at exit, and whether assumption optionality at a potential sale has value in your business plan.

The rate-curve sensitivity of both structures is often misunderstood. Both yield maintenance and defeasance become expensive when rates fall after origination, because the Treasury yield used to discount the remaining cash flows is lower, requiring either a larger premium payment or a larger Treasury portfolio. The difference is that defeasance has no contractual floor in most CMBS documents, meaning that if Treasury yields rise above the loan coupon before the exit date, the defeasance can cost less than the outstanding loan balance, producing a net credit to the borrower. Yield maintenance in agency loans typically includes a 1 percent floor, capping the downside to the lender. In a sharply rising rate environment, defeasance can be dramatically cheaper than yield maintenance on an otherwise identical loan.

The defeasance assumption option is the most underappreciated element of CMBS loan structuring. When a sponsor sells an asset with a defeased CMBS loan, the buyer has the option to assume the loan if the existing coupon is below market. In a rising rate environment, a 5.50 percent coupon on a 10-year fixed CMBS loan originated in 2024 or 2025 could be a meaningful asset to a buyer in 2028 or 2029 if new money rates are 6.50 percent or higher. In that scenario, the buyer pays for the assumption, the seller avoids the defeasance cost entirely, and the loan is transferred. Yield maintenance loans do not preserve this optionality in the same way; the sponsor must pay the premium and retire the loan at sale.

Step-down prepayment is the third structure and is worth understanding as an alternative on agency and portfolio loans. A step-down schedule, such as 5,4,3,2,1 percent of outstanding balance in years one through five, is simple and predictable but is almost always more expensive than yield maintenance in the first two to three years of the loan and less expensive in the final years. Step-down is favored by borrowers who prioritize simplicity over optimization and who plan to exit in the final years of a short-term fixed-rate loan. It is not available on CMBS and is offered only on select agency and portfolio executions. For any loan above $10M, the economic difference between step-down and yield maintenance over the life of the loan is worth modeling explicitly before selecting a structure.

Most borrowers focus on the coupon and forget that the prepayment structure is a second interest rate embedded in the loan. In the wrong rate environment, yield maintenance or defeasance can cost more than the origination fee, the rate spread, and the closing costs combined. Model the exit, not just the entry.