Commercial Debt Strategy

[Greg Franck]

We are to the point in our investment career to which we will need to use a commercial loan product or private money to acquire our next property. I have built a great relationship over the years with a Regional bank who is more than willing to work with us, so this is the route of least resistance we are pursuing. I have a firm understanding of commercial products and function however I am not accustomed to the short term duration (3-5 years). This is the basis of my question for those of you who utilize commercial products regularly (or originate loans). 

To provide some insight into the type of property and condition we are looking at acquiring with this product, think multifamily residential ideally 5 door or more turnkey type property. We will look for some value add potential to push up rents (updating a kitchen or bath, updating fixtures, appliances, etc.) but not expecting a large project as we just don't have time. This property would also be something that we would look to hold in our portfolio for a length of time (greater than just the initial loan term). 

This being said the current environment is concerning to me with all time low rates and the Fed signaling they will begin to tighten next year into 2023. I have to plan for the potential that when it is time to renew the term for a 3 or 5 year product I will potentially face much higher rates and higher cap rates. This obviously can have drastic impact on our ability to refinance or sell at favorable terms. How are you underwriting your deals to account for this risk or what strategies are you using to reduce this risk?

[Brandon Plombon]

Hi Greg - I would talk to your lender about doing rate resets on a fully amortized note instead of a traditional balloon in 5 years. Basically the rate will be fixed for 5 years then reset back to an index, typically WSJP +- a percentage. This effectively guarantees loan renewability while saving renewal costs (appraisal, title work, loan fees, ect) as long as you are making your payments you never have to worry about the note being called or nonrenewed. However; this does not protect against long term rate increases but as long as the rate environment is still favorable you can always refinance out if the rates get way out of whack.