Keep Bridge Loans in Your CRE Finance Arsenal
As banks raise their requirements and construction costs rise, these loans have become an even more useful tool in the value-add and redevelopment space, says Calmwater Capital's Tristine Lim.
In today’s commercial real estate lending climate, owners and developers increasingly see bridge loans as an essential tool―almost a magic bullet―that can overcome hurdles to remain competitive in the multifamily marketplace. As the cost of home ownership continues to price middle-income earners out of the buyers’ market and into the rental marketplace, multifamily owners continually invest in their properties to attract this group and grow profits.
When it comes to the cost of value-add construction or redevelopment―whether it’s the cost of construction, the need to refinance or consolidate debt, or a desire to buy out other owners―bridge loans have become the weapon of choice in this segment of the market.
There are multiple ways to finance the payment of this debt to initiate renovations. Banks still occupy a significant share of the lending pool for the apartment construction market, which includes redevelopment efforts. However, since traditional banking institutions are generally not willing to lend as much in relative to the value of the property, interest rates also tend to be higher than those offered by other lending sources.
Another popular investment vehicle is a bridge loan from a private lender. These are among the most versatile options for redevelopment opportunities. This lending tool is most effective for properties under the multifamily category that involve property transitions, acquisitions, and conversions. To fully understand the application of a bridge loan to a multifamily redevelopment, it is important to first identify the types of lenders, what they’re offering and the current condition of the project in need of financing.
The Bridge Players
On one end of the spectrum are institutional debt funds, who typically provide lower-cost, lower-leverage loans and generally lend on core, institutional assets in primary markets. On the other end, you’ll find high-yield, high-leverage lenders like Calmwater Capital, who can close quickly and provide flexible structures in order to allow borrowers to execute their distinct business plans. Experienced lenders in the bridge space have filled a niche that differs from that of permanent lenders in that capital can be provided for non-cash-flowing or vacant properties, where competitive lenders are focused on basis and bridging to the permanent loan take-out.
When considering whether or not a bridge loan is the best investment vehicle for your next project, it is important to consider the below scenarios:
How volatile is the local market?
Borrowers should consider geographic location and the lender’s experience in a particular submarket. This expertise makes conversation about the project easier, as the lender will not need to acclimate to the specific market’s trends. However, a proven national lender should be able to familiarize themselves with a particular location or asset class quickly, while maintaining high underwriting standards and meeting borrowers’ expectations.
Is your project a property transition?
Almost any asset class can undergo a property transition via bridge loan financing. A borrower can use the loan to finance the acquisition of a vacant or nearly vacant property. This is a great use of a bridge loan if the sponsor or developer aims to stabilize the property. Property stabilization entails improving the leasing and/or occupancy of the asset. An occupancy rate of at least 80 percent is generally considered stabilized. Once this has been achieved, the newly stabilized property can be sold or refinanced using a more permanent loan structure.
Is your project a property acquisition?
As with property transitions, bridge loans can also be used to acquire almost any asset class. A popular use of bridge loans in acquisitions is to use this type of loan to cover any acquisition-related costs associated with the transaction as a whole. Finders’ fees and any legal fees associated with the acquisition are most commonly associated with an acquisition. Accounting and due diligence fees, however, also make up a large part of property acquisitions. Bridge loans provide a way to cover these costs in a shorter amount of time.
Is your project a condominium conversion?
Bridge loans can be used to both acquire and convert existing properties. For example, since an acquisition has legal, accounting and due diligence costs, property conversions will almost always have rehabilitation fees. This is because an asset previously zoned for commercial office space will need structural enhancements to make it suitable for a boutique hotel or multifamily redevelopment. Even a conversion of rental apartments into residential condominiums will incur rehabilitation costs despite their similarities in structure.
To summarize, developers should aim to work with bridge lenders with both flexibility and experience to provide reassurance and expedient financing. With multifamily properties continuing to surge in popularity, the need for bridge loans and debt financing is unlikely to disappear. As long as borrowers keep the above in mind, they will be better equipped for picking the best bridge solution for their projects.