Keybank Multifamily Affordable Housing Janette O'Brien

Fine-Tune Borrowing Strategies to Activate Multifamily Projects

by Sarah Daniels

Multifamily developers and owners seeking debt financing face a gauntlet of headwinds, but deal flows confirm that good deals are still landing loans.

That’s according to Janette O’Brien, head of production for multifamily lending at KeyBank. As one of the nation’s largest bank-based financial services companies, KeyBank has a full pipeline of multifamily loans in process.

That puts O’Brien’s finger on the pulse of what differentiates viable deals in today’s volatile market. Multifamily & Affordable Housing Business asked O’Brien about current borrower challenges, as well as the strategies that are helping some projects reach their financing goals.

In her view, most of the difficulties holding back would-be multifamily borrowers trace to a triple threat of industry trends. Those are funding gaps, insurance challenges and a scarcity of construction financing.

Working with Limited Leverage

Funding gaps may be the most prevalent issue. Like the larger economy, the multifamily sector has wrestled with interest rate hikes and soaring costs. Inflation has raised the price of materials for construction, maintenance and repairs, while labor challenges have elevated personnel costs. Taxes are up in many markets.

Heightened costs squeeze net incomes and property valuations, effectively reducing a property’s value as loan collateral. At the same time, many lenders have reduced loan-to-value ratios due to elevated risk. Available loan amounts are often far less than borrowers anticipated.

“Borrowers are up at night worrying about the gap between eligible loan amounts — plus any outstanding debt they are already carrying — and the amount of money they want to put into improvements,” O’Brien says. “Equity or mezzanine financing can make up that critical difference, but it is expensive and may not be an option with some primary loans like mortgages backed by a government-sponsored enterprise.”

Teams at GSEs Fannie Mae and Freddie Mac are aware of borrowers’ plight and are exploring ways to help them finance a greater portion of project costs, O’Brien says. But borrowers shouldn’t expect rule changes in the near term.

In the meantime, owners and developers can improve their odds of success by conforming projects to the GSEs’ mission of promoting affordable housing.

“Agency lenders are absolutely lending, and they are easy to deal with right now because they know people need those loans,” O’Brien says. “With pressure on the GSEs to serve their missions, the majority of borrowers need to make their rents meet agency requirements so they can qualify for those loans.”

That means ensuring the property will offer the appropriate number of affordable units, according to agency guidelines for the type of property and loan.

“The multifamily properties that are easiest to finance today offer at least half of the units at rents affordable to families earning 80 percent of area median income,” O’Brien says. “I also recommend that anybody planning an affordable housing project apply for Low-Income Housing Tax Credits (LIHTCs) to help bridge the gap between their loan and total cost.”

The LIHTC program provides federal tax credits to state governments and local housing authorities, which award the credits to landlords and developers that provide housing to low-income renters. Recipients can then sell the credits to offset acquisition, development or operating costs.

“Borrowers are turning to their communities to close funding gaps on their affordable housing efforts, and the state and local authorities are absolutely providing it,” O’Brien says.

Treating Insurance Ills

Insurance is both a contributor to rising operating costs and a sticking point in many loan applications, when required coverage may be prohibitively costly or unavailable. Pummeled by claims and lawsuits from a rash of hurricanes, wildfires and other natural disasters, insurers have ratcheted up premiums and even ceased to offer policies in some areas, such as coastal markets. Some property owners have had their premiums raised on entire, multistate portfolios that included individual properties in high-risk markets.

“The insurance companies have to recapture the losses that they have incurred, and a lot of deals are not working right now because of the cost of the insurance,” O’Brien says. “Premiums are tens of thousands of dollars per unit more than they were a few years ago in some areas like Florida and California, where it has become difficult to even obtain a policy on some properties.”

An experienced lender may be able to help a loan applicant explore insurance options to satisfy loan requirements. Some borrowers have used self-insurance, which involves setting up a reserve to cover potential losses normally addressed by a purchased policy.

Construction Lending Leads

In today’s risk-averse lending climate, construction lenders are growing scarce. As with insurance, a borrower’s primary lender may be able to help source a construction lender even if they don’t offer that product themselves.

O’Brien says several life companies and a few small banks are offering loans for construction, and some offer pre-stabilization financing, which can help a borrower exit a costly construction loan before a property is fully leased.

Some lenders that have ceased to market construction loan products will find a way to finance that phase of development for large, established customers. Due to stringent regulatory oversight, however, those arrangements will require more safeguards than the lender may have offered in the past.

“If borrowers can get construction loans right now, they are getting much lower leverage compared to a few years ago and are being required to provide guarantees,” O’Brien says. “Today’s construction loans need suspenders instead of bells and whistles.”

Solutions in the Face of Challenges

Once funded, borrowers should avoid jeopardizing their projects by sticking to established development schedules. “Extending loans right now is not easy,” O’Brien says.

Borrowers who find themselves struggling should communicate with their lender, she adds.

“Banks and lending partners understand the hardship of developing, staffing and running a multifamily property,” she says. “It is tougher than it used to be, which is why clients are partnering with their debt providers to find solutions.”

— By Matt Hudgins. This article was written in conjunction with KeyBank, a content partner of Multifamily & Affordable Housing Business.

To learn more about KeyBank, click here.

For more information on becoming a Multifamily & Affordable Housing Business content partner, contact Rich Kelley.

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