Multifamily Property Owners Benefit From Competitive Financing
The current low interest rates present a double-edged sword for many property owners: The rates offer increased cash-flow opportunities, but they also allow tenants to qualify for higher loan amounts and motivate them to move out of apartments and into homes. The resulting soft occupancies force lenders to be more creative in competing for multifamily loans.
In the past, most lenders required 90 percent occupancy for 90 days before closing on a loan. Currently, some lenders are more flexible on physical occupancy and net operating income requirements. Today, many quality properties have physical as well as economic occupancies in the 80 percent to 90 percent range. Although lenders are more accepting of those properties, they still have to deal with their debt service coverage requirements and the fact that these properties' net operating incomes have either dropped or are lower than required to obtain full loan proceeds. Thus, additional creative financing is needed.
For example, permanent lenders accept short-term letters of credit so cash-strapped properties can cover the income shortfall necessary to support their loan requests. Once the required DSC is attained, the letter of credit is released. Lenders also may hold funds in escrow until the property attains a certain income. If all the loan proceeds are not needed immediately, certain lenders, such as the Federal Home Mortgage Corp., provide second mortgages, once the property's income level has increased sufficiently.
For properties with cash-flow problems, some lenders capture business with one- to three-year bridge loans and higher-risk mezzanine loans that can aggregate up to 90 percent of value. Additionally, some lenders offer up to 90 percent of the equity requirement in these transactions. Bridge loans generally float over the one-month London interbank offered rate index and often are interest-only rather than amortizing loans. These loans can have interest rates below 5 percent and, combined with interest-only payments, give property owners breathing room until a property stabilizes.
Primary Lender Financing Options
Life insurance companies, Wall Street conduits, commercial banks, and government-sponsored entities provide creative new offerings to capture multifamily property owners' attention. Although Fannie Mae and Freddie Mac typically offer the lowest rates for multifamily loans, at certain times during the year these other sources can be competitive providers of funds for multifamily financing.
Life Insurance Companies.
Life insurance companies' best rate offerings occur when they are behind schedule in their lending targets, which can happen at any point during the year. They typically have competitive rates for new and top quality apartment properties, although some may accept properties that are older and slightly lower in quality. In addition to great rates, life companies rate-lock at the beginning of the loan process, sometimes provide a second mortgage, require slightly less paperwork and reporting requirements than Wall Street conduits and government-sponsored agencies, and sometimes offer set prepayment penalties instead of yield maintenance. However, they do not offer a maximum loan amount. Wall Street conduits and government-sponsored agencies provide at least 5 percent to 10 percent more in loan dollars and are more forgiving of older properties.
Wall Street Conduits.
Individual Wall Street lenders sometimes provide very low rates when they approach the end of an investment pool of funds and are ready to securitize the pool of loans. However, there is no specific time during the year when this occurs as each Wall Street conduit has its own time line for securitizing a pool of loans. Although conduits may not be the lowest rate provider — with rates often 20 basis points to 30 basis points higher than the government-sponsored agencies — they do offer the most loan dollars of any non-recourse lender. They also are the least strict capital provider regarding property quality and history.
Conduits generally offer five- to 10-year fixed rate loans with yield maintenance prepayment penalties or defeasance, which is similar in the cost of prepayment. Their disadvantages include prohibiting easy and inexpensive prepayment, not providing subordinate financing, and disallowing any subordinate financing when the property is used as collateral. The latter problem is most evident when a property with an existing conduit mortgage is being sold. The new buyer most likely must have the ability to assume the existing loan and have the wherewithal to provide cash for the difference between the purchase price and the remaining loan balance.
Generally, local banks are a good alternative for underperforming properties because they can accept other properties as additional collateral to maximize the loan amount. The disadvantage is that most banks require recourse or personal guarantees by the property owner.
Fannie Mae and Freddie Mac are at consistently low rate levels throughout the year. Amortization schedules could be as long as 30 years, and the loans do not require any personal guarantees. In addition to great rates, a big advantage is that Fannie Mae and Freddie Mac are always in the apartment lending market and never run out of money. They also provide second and third mortgages behind their own first mortgages at very competitive interest rates.