What is the Fee to Guarantee?

[Jay Helms]

Afternoon BP. Under contract on our first midsize MFR (42 units) with a purchase price of $16k/unit. My investment partner and I are structuring this deal so our friends and family are Limited Liable partners and my partner and I are the general partners (will sign for the note). Working with our preferred lender, he wants someone of high net worth to also be a guarantor for the loan. We have found such an individual who is asking 2% annually of the outstanding loan balance. This high net worth individual will not be putting any money in the deal (until we convince him otherwise).

What is the going rate for someone to just sign as a guarantor for a commercial loan?

Would you take the 2% deal as described above? Why / Why not?

[Jeff B.]

That's 16k * 42 = a deal worth 672k.  2% per annum would be 13.4k return.

Now, what will you offer as security?

[Nathan Waters]

@Jay Helms, Just out of curiosity, what is the qualifier for a high networth individual as far as your lender is concerned? Is it based on his income or assets or some combination of the two? 

[Michael Le]

@Nathan Waters, generally the lenders are looking for combined net worth from all the loan guarantors equal to the amount of the loan. In this case if the purchase price is $672k then it will be $538k, if they're getting a 80% LTV loan. And net worth is all assets, including primary residence. It does not include income.

[Jay Helms]

@Michael Le - thank you.

@Nathan Waters - please reference Michael's comments.

@Jeff B. - great question. With no capital in the game, why would we need to offer a security? By that I mean, if the loan went in default, I believe the high net worth individual would step in and just pay it off. Eliminating myself and my business partner from the LLC and take sole ownership of the property.

[Michael Le]

@Jay Helms, don't take this the wrong way but if I were that high net worth individual I would have huge concerns about your line of thinking. Likely I have no interest in taking over and running this property. Especially a property that is likely worth much less now that my partners have ran it such that it is now in default. And since this is likely a recourse loan, my personal assets are at stake too.

In answer to your original question, I've only had one experience with this sort of fee and it was .25% of the loan... but the loan was a $13M loan so the amount was $32k a year. That would only come out to $1345 on your particular deal so I can't imagine someone would take that offer. 

[Jay Helms]

Tim Kelly

[Jeff B.]

Originally posted by @Michael Le:

@Jay Helms, don't take this the wrong way but if I were that high net worth individual I would have huge concerns about your line of thinking. Likely I have no interest in taking over and running this property. Especially a property that is likely worth much less now that my partners have ran it such that it is now in default. And since this is likely a recourse loan, my personal assets are at stake too.

In answer to your original question, I've only had one experience with this sort of fee and it was .25% of the loan... but the loan was a $13M loan so the amount was $32k a year. That would only come out to $1345 on your particular deal so I can't imagine someone would take that offer. 

 Me too.  Friends or not, when things go bad, it's only the documentation and collateral left to help make things straight.

[Tim Kelly]

Thank you all for the quality feedback!

@Michael Le - Our potential guarantor's fee is 2% annum with a $25,000 minimum. Thoughts on that?

 Also, I think Jay vividly illustrated a worst-case-scenario situation as he described what would happen if the loan defaulted but you are exactly right.  IF you were guaranteeing a loan like this one, I believe that is part of the risk, as he won't have a dime in the deal (as of now) and is collecting his $25,000 annually just for showing his balance sheet. 

Do you happen to know anyone who would be able to speak from experience as a personal guarantor?

[Account Closed]

I guess the real question is can you afford it ? .. does the current rent and occupancy cover that cost as well as make you , your partners and family profit ? .. if so then consider it .. if there is no other way deal the deal to go through , then consider it .. after all its not about if he is asking to much but , do the numbers work ? .. after you hold it for a while and refi it, that fee should go away .. make sure there is no guarantee that it stays for so many years ..You could aways try to approach him with the numbers and ask him to reduce it to 1-1.5 % .. thats the first thing i would do once i figured out if the numbers even work .. 

I wish you and your project the very best ..

God Speed, 

Michael Short   

[Matt H.]

That seems too steep and also unnecessary. Why don't you find someone in the deal who can do it and just waive the fees for them. Or bring someone onto your team who can do it. It's a pretty small loan,plenty of people can cover that size. Adding 2% to the interest rate makes any deal suffer. And long term you need to be able to obtain the financing yourselves...

[Michael Le]

@Tim Kelly, sorry, I don't have someone I can refer you to.

@Matt H., giving up flat rate to someone seems better to me that giving up equity to someone who will partake not only in the cash flow but the reversion proceeds. 

[Account Closed]

Originally posted by @Jay Helms:

@Michael Le - thank you.

@Nathan Waters - please reference Michael's comments.

@Jeff B. -...With no capital in the game, why would we need to offer a security?...

If you (and the crew) were to mismanage things, the guarantor can then be on the hook with the bank and possibly risk his assets. This can be extremely risky.

[Spencer Gray]

2% / year just for guaranteeing the note seems salty to me.

How is the deal structured with the LPs/GPs? More specifically how are you being paid to put the deal together? Do LPs get a preferred return and then a split after the pref hurdle of like 70/30?

Why not give him 10-15% of the fee you charge your LPs to put the deal together and 10-15% of the carried interest? Have the fee be converted to equity at close so he gets a piece in exchange for guaranteeing the note.

That way he gets compensated when the deal makes money but it won't drag down the overall performance of the deal. He'll get distributions and a piece when you sell.

[Mike Dymski]

https://www.youtube.com/watch?v=S6u2dJq8nWE

Check out the attached link on loan sponsorship...22 minute point in the video.

You will find that the compensation is all over the place, even for non-recourse loans.  Loan sponsorship compensation is also typically low in the investment clubs; so, understand that when getting information from other deal sponsors who may be in a club.

Loan sponsor comp is also a little bit of the secret sauce; so, not everyone is going to reply in a public forum.  May have to work your network to better understand the market for it.

For recourse loans, all bets are off, which I assume this is a recourse loan based on the loan size and price per unit.  I would suggest that recourse compensation will be deal specific and based on what you can afford to pay to get the deal done.  I personally will sponsor a non recourse loan for the right lead but would only sponsor a recourse loan if I was part of the active ownership group (not just part of the GP).  Figure out what ownership you are willing (and able) to give up to get the deal done and that will help you determine what compensation to provide (whether through ownership or loan fees).  If this happens to be a value add and plans are to refinance, you may be able to execute the re-positioning quickly, refinance into non recourse debt, and reduce your loan sponsor compensation sooner than later.  Whether it is a value add or a yield play should also influence the type (equity or fees) of compensation you will want to pay.  Good luck.

[Jay Helms]

That is correct @Mike Dymski - recourse loan. Thanks for the link, that's good intel. Will discuss a performance based + equity with Tim.

Agreed @Spencer Gray - glad to know I wasn't the only one thinking this was a little high. Also seems like if he's on the hook he'd prefer to have a piece of performance vs dragging the cash flow down. Great feedback. And the deal is structured as 8% preferred return to LPs with a 70/30 split after that. LPs = 70, GPs = 30. Thoughts?

@Matt H. - we are working on the option of having an equity partner also serve as the guarantor.  

[Matt H.]

@Michael Le @Jay Helms

The point I was making is he is charging his investors a high price for the guarantee which he can't obtain on his own. I personally would never invest in a project if the rate was jacked by 2% for a guarantee. And on the other side I'd be happy to guarantee a project for 2% if I was comfortable with the building. That's how I know it's high. And I've heard of people charging a guarantee fee on top of the normal fees but it's much less and it is the sponsor charging it. Where necessary, I guarantee with my partners at no extra cost, that's just me.

I wasn't suggesting giving up equity, I was suggesting getting a partner who can guarantee and give him/her even economics. Or said another way, don't charge him fees. That way the sponsor is covering the cost not the investors.

Jay it seems like you are on the right track finding said person. I'm not saying don't do the project because you can't guarantee, I'm saying acknowledge it is something you should be able to do, cover the cost of getting it done so you don't pass it on to your investors. And then going forward work on being able to or partner with someone who can.

Matt

[James Morrison]

Great thread.  Just finished reading.  Too bad there's not a market place in every major city for HNW individuals who are open to lending their balance sheet to "credit enhance" the sponsor (assuming the sponsor track record and deal economics make sense).  Does such a marketplace exist? 

[Justin Goodin]

@Jay Helms I would say 10% is a fair number. For more risky deals, I have seen 20% go for signing on a loan. Really comes down to the deal and situation.