Then there are the pending commercial real estate debt maturities. A handful of years ago, floating-rate debt was plentiful and cheap. Not so much anymore. “Given the changes in lenders’ underwriting criteria, as existing loans mature, borrowers are now facing the reality of cash-in refinance to meet their extension tests, or to qualify for a new loan,” Jon Pharris, CapRock Partners’ President and Co-founder told Connect CRE.
Other experts also told Connect CRE that there are limited options to the current scenario. The choices involve refinance, asset sales, and in the absolute, absolute worst-case scenario, defaulting on the loan.
Refinancing? Okay. But Bring the Checkbook
The standard methods of dealing with debt maturity typically revolve around refinancing. But in the current scenario, “standard methods” might not work well.
“In a market that’s volatile as it is right now, it can be hard to find many refinancing options,” said Juan Ramirez, Tauro Capital Adivsors’ Senior Processor.
Refi solutions include short-term bridge and mezzanine financing, both of which have higher interest rates. There are also some lower-interest fixed-rate vehicles out there. But before refinancing a CRE asset with a looming debt maturity, it pays to understand the current loan, and the property it’s financing.
“Most owners with loan maturities in the next couple of years on industrial, multifamily, retail and self-storage will be able to refinance IF their loans were originally moderately leveraged,” said Bryan Kenny, principal at Bandon Capital Advisors. However, due to higher rates and minimum debt coverage, “if they were fully leveraged at origination with no amortization during the loan and had only moderate rent growth, they may need to come to the closing table with additional funds,” Kenny said.
In other words, any kind of refinance could require additional equity on the borrower’s part. Benjamin Kadish’s advice to borrowers thinking about refinancing is to look for first mortgages with a relatively low fixed interest rate. “Borrowers should also seek out preferred equity to bridge the gap between the original loan and the amount of debt the lender is comfortable issuing today,” said Kadish, president of Maverick Commercial Mortgage.
But again, additional capital will likely be required, even with a fixed-interest rate refi. Also necessary will be “solid cash flow, a large balance sheet and sufficient assets to obtain financing for a new loan,” according to Ramirez.
Asset Sales – But Prepare for Challenges
Some borrowers facing debt maturity might have to sell their assets. There are pluses and minuses to this strategy. According to Ramirez, selling the property can help pay off the debt owed and avoid potential dings on their credit histories from default. “However, if owners are in desperate need, they may need to sell the property at a discounted price to draw attention from buyers,” he noted.
Furthermore, those sellers are facing decreased demand from buyers – not to mention decreased debt availability from lenders. Kadish pointed out that there are fewer borrowers in the market who have the resources to buy. He pointed to the shrinking pool of available capital from lenders. “This dynamic significantly reduces the liquidity in the commercial mortgage market and drives the spreads even higher,” Kadish said. “In fact, there are quite a few private debt funds that have simply stopped issuing new loans entirely.”
More money is necessary to refinance loans in today’s climate. The same holds true if a seller is considering sales or even adaptive re-use. In ether situation, a seller needs more “capital to enhance the property to be more attractive to businesses,” said Scott Morse, managing director, Citadel Partners.
Default – The Absolute Last Resort
Defaulting on a loan is not an action to be taken lightly. At all. But if selling an asset is out of the question “and refinance is not workable, a deed in lieu of foreclosure or foreclosure are options,” Morse said.
But Ramirez cautioned that defaulting on the loan can create other problems and should only be used if there are absolutely no other choices. Defaulting on a loan can “damage the borrower’s credit history, affect the owner’s ability to obtain financing down the road,” he said. “The borrower could also face legal action.”
Before considering any kind of foreclosure, the best path is to communicate with the lender.
The Best Advice – Talk to Your Lender
The experts explained that borrowers facing a looming debt maturity in the coming year should encourage dialogue with the lender. Even if that maturity won’t occur before 2024, opening that communications channel can be beneficial. “Experts recommend acting early and seeking help from professionals in the owners’ specific CRE sector to make the best financial decisions,” Ramirez said.
And if the borrower has otherwise lived up to their obligations and is a good operator, lender collaboration might be the answer to maturing debt challenges, Morse said.
“As workplace dynamics continue to evolve, there has not been one ‘silver bullet’ answer for every company,” he added. “Some modicum of forbearance by the lender could also be a solution, assuming the lender believes in and has faith in the operator.”
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