Fannie, Freddie Raise Reserve Requirements as Loan Standards Tighten

Meeting the higher standards for reserve capital is likely to be a tall order for many borrowers, reports Paul Fiorilla of Yardi Matrix.

Paul Fiorilla, Director of Research, Yardi Matrix

As lenders nationwide hunker down and prepare for an economic downturn, Fannie Mae and Freddie Mac are implementing stricter multifamily loan terms.

The GSEs remain open for business, but many borrowers will have to provide more equity and will be required to put 12 to 18 months of payments into a reserve account. That is a tough ask for all but the most well-capitalized borrowers.

This tightening of standards reflects the caution that lenders are displaying as the nation is in the grips of an economic shutdown caused by the COVID-19 virus. Much of the U.S. is under stay-at-home orders, which has shut down many business segments and left many tenants unable to make rent payments.

The uncertainty about the length and breadth of the shutdown has led some lenders to cut back on new business or to insist on highly conservative terms with rate floors and borrower reserves sufficient to make payments in the event of a lengthy shutdown. “All lenders are requiring some type of principal and interest reserves until there is a clearer picture of the crisis,” said one New York City-based loan intermediary. 

Higher Hurdles

For loans of $6 million or more, Fannie is now requiring borrowers to provide 12 months for principal and interest reserves, taxes and insurance escrow deposit and replacement reserve deposit. Smaller loans must have 18 months of reserves, which will be particularly difficult for owners of smaller properties. “Smaller borrowers are happy to raise enough capital to close,” said one market insider. “Raising additional capital for debt service reserves is a non-starter.”

Loans with a higher debt-service coverage ratio (1.35 or higher) and a lower loan-to-value ratio (65 percent or less) are only required by Fannie to set aside six months of deposits/reserves. Low-risk loans—those with debt-service coverage of at least 1.55 and 55 percent or less leverage—are exempt.

Freddie is requiring all borrowers to put up between six and nine months of debt service reserves, depending on whether debt-service coverage is 1.40 or higher. For small-balance loans, Freddie is requiring 12 months of debt-service reserves and will underwrite any commercial space on properties as having zero income.

As part of the $2 trillion federal economic relief package, Fannie and Freddie are required to offer borrowers as much as 90 days’ forbearance. Many residents are expected to have trouble paying rent as millions have lost their jobs during the past several weeks. However, borrowers will be required to provide written requests for forbearance and show that the inability to pay was caused by the pandemic response, and to create a plan to address the shortfalls.

The sudden economic downturn has affected all types of lenders, not just the GSEs. Securitization programs (CMBS, CLOs) are facing little demand for bonds, and most banks are stepping back until there is more certainty about the economic situation. Most deals getting done involve refinancing maturing loans and transactions that were started before the full impact of the coronavirus became apparent.

Unfortunately, I think that loans of all sizes will be challenged and only those that have to be financed will,” said a capital markets professional at an international brokerage. “We have already seen a significant slowdown in the pipeline.”


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