How Banks, Life Companies Are Besting the GSEs

Borrowers today can expect more favorable terms from banks and life companies as these lenders compete heavily for business that is typically the territory of Fannie and Freddie, says Draper & Kramer's Matthew Wurtzebach.
Matthew Wurtzebach  Image courtesy of Draper & Kramer

In top-tier markets, banks and life insurance companies are aggressively competing against―and often beating―the Government Sponsored Enterprises (Fannie Mae and Freddie Mac) to win the best long-term, non-recourse loans. Understanding how banks and life companies compete helps borrowers achieve the best available terms and secure an enduring competitive advantage for their multifamily properties.

According to the Mortgage Bankers Association, in 2018, the GSEs collectively originated $142.3 billion in loans. In comparison, banks and life companies closed $174 billion and $83.4 billion, respectively―across all asset classes. The GSEs are often the first lending source that borrowers consider given their size and variety of product offerings, but they are not always the best source.

Bank Execution

While national banks like J.P. Morgan Chase have offered longer term, non-recourse multifamily loans for years, during the past 18 months, we have seen more regional and international banks enter the fray. In some cases, banks have created specific programs to attract longer-duration loans in order to compete directly against the GSEs and life companies, while other banks strategically use their balance sheets to keep great assets or service strong clients.

On mid- to large-sized loans, we are finding banks can beat the agencies on proceeds and structure. For quality assets in strong markets, banks have closed 10-year, fixed-rate, non-recourse loans with several years of interest-only payments at 70 percent loan-to-value ratios and 7 percent debt yields. For properties that are near-stabilized, some banks will take a component of recourse until the asset achieves the necessary cash flow to satisfy minimum debt service requirements. While the note rates can be higher than what GSEs offer―and most banks still require some operating covenants―borrowers find the increased leverage and the ability to lock in a long-term loan sooner attractive.

On smaller loans, particularly in the sub-$7 million space, banks also are winning by keeping origination and closing costs low. Some will waive origination fees and third-party costs while limiting documentation expenses by using standardized loan documents. This execution format is similar to the GSE small balance programs.

Life Insurance Company Execution

Life companies compete head-to-head with the GSEs on Class A assets in major metro areas where low cap rates are still the norm. Life companies tend to excel on moderate-leverage (65 percent LTV or lower) loans, and generally have much tighter pricing than the GSEs. While GSEs can programmatically provide 75 percent LTV on market-rate assets, when leverage is constrained by property cash flow and not LTV, the GSEs become less competitive.

Since life companies generally have more competitive pricing on transactions that are debt coverage limited, particularly on Class A assets, they will often beat the agencies on pricing and loan proceeds because the lower note rate allows the life companies to achieve higher dollars at the same debt coverage. Simply stated, as debt coverage approaches 1.25x at 65 percent LTV, Life companies gain an advantage. At top leverage, best-in-class life company execution is 65 percent LTV with a 7.25 percent debt yield, 10-year term with five years of interest-only payments followed by a 30-year amortization schedule. The loans are non-recourse, and the rate locks at application. Current market spreads are T+135 to T+150 at full leverage. Lower leverage opportunities will price below T+115.

Life companies are also winning deals on loan duration and structure. Some life companies can offer terms as long as 15 or 30 years. Because the yield curve is flat, the note rate difference between a 10-year and a 15-year loan can be as low as 5 basis points and life companies will typically price longer duration loans against the loan’s average life as opposed to the indicative treasury, which is a benefit to the borrower.

Structurally, some life companies will utilize a master lease, personal guarantees or holdbacks until an asset stabilizes as a way of winning business. Quest Realty Group recently used this strategy for its newly constructed, 33-unit property at 4428 N. Sheridan Road in Chicago’s red-hot Uptown neighborhood. “The apartment units leased very fast, but it generally takes a few months longer to find retail tenants that complement the building,” said Jason Vondracheck, owner of Quest Realty Group. “In exchange for temporary structure around the retail units, the life company execution allowed us to lock in a low rate for 20-plus years and free up capital for our next project.”

Freddie Mac and Fannie Mae may be the biggest multifamily lenders in the market, but banks and life companies are willing to compete aggressively to win the best deals. Understanding the full market and considering a range of financing options is the best way for borrowers to unlock value in their capital stack.

Matthew Wurtzebach is vice president of the Commercial Finance Group at Draper and Kramer, Incorporated, a national real estate services firm based in Chicago.