FEATURE ARTICLE, FEBRUARY 2007

SHORT-TERM FINANCING MAY BE A TREND THIS YEAR
With the national market in transition, property owners seeking financing this year will experience significant changes in the real estate lending environment.

Any projection about the economy and real estate has to begin with the spending confidence of the American consumer, which, in recent years, has been closely aligned with rising home values. Beginning last year, a convergence of economic conditions — rising interest rates, higher energy costs and a softening of the residential market — began an erosion in that confidence. Now, home values, a key driver for the broader economy, are falling in many markets, with predictions of 12 to 18 months before improvements in current conditions.  

With home owners accustomed to double digit increases, quickly rising equity, lavishing money on homes and trading up, the residential market decline has caused a ripple effect. Commercial real estate borrowers will find traditional lending institutions have manifested their concern about a slowing economy by becoming more conservative, tightening loan criteria and credit lines and seeking to divest certain types of existing lending products.  

Though traditional lenders have become more risk adverse, this year will be rife with real estate opportunities for investors and purchasers of commercial real estate, many of who will turn to unconventional or short-term lenders to get a deal done quickly and efficiently. 

In every type of market, there are numerous real estate scenarios where short-term financing is an ideal financial solution, among them the need to quickly refinance to buy out of a troublesome partnership; renovate or reposition a property to attract higher quality tenants and rents; mismanaged properties; stave off foreclosure or bankruptcy; refinance high interest rate mezzanine loans; and obtain fast financing for a time-sensitive acquisition. Or, perhaps a property needs mold remediation, is vacant or has another atypical condition, which makes obtaining traditional financing difficult, if not impossible.

Unconventional lenders have always been a resource for borrowers unwilling to deal with the lengthy time frames and red tape that is common with traditional lending institutions, or who are unable to meet stricter underwriting standards. 

Market conditions this year, however, are fueling greater demand for short-term finance transactions. There will be more properties under duress; more properties languishing on the market seeking buyers for longer periods of time; more note repurchases or buying back debt at discount; more banks seeking to get out of unsold share transactions with remaining apartment inventory; and less available financing for conversion deals as the condominium market slows. 

Short-term lenders, which specialize in finding finance solutions for problematic situations, will fill the breach. Though lenders will allow equity cash-out, the preference is to have the borrower retain an equity position in the property to avoid overleveraging and sustain financial interest. 

The opportunity to purchase properties less expensively than in recent years will motivate investors and purchasers, as well as entice more new buyers into the market. With many of these time-sensitive acquisitions, the flexibility and speed with which short-term lenders operate are invaluable in locking up a good deal quickly. Though there are borrowers who view working with short-term lenders as a resource only when they find themselves in unusual circumstances or under financial duress, the need for speed is one of the most compelling drivers of working with a short-term lender. But many customers are financially sound and simply want and/or need to get a transaction done quickly to capitalize on an opportunity. 

In the retail commercial sector, one timeline looming for all property owners is the large number of loans coming due or being extended (on new terms with higher interest rates) from 5 and 10 years ago, as well as the increased stress on the cash flow of owners locked into leases as the cost of money rises. As consumer spending dwindles concurrent with falling home values, more owners of aging retail properties will be looking to refinance to fund improvements and stay competitive. Expect to see an increasing number of acquisitions of mismanaged properties in tandem with cosmetic improvements and market repositioning, which is often a short-term lender product.

One previously super-hot market segment that has experienced significant cooling is condominium conversion. As banks seek to get out of remaining inventory, many more unsold share transactions/refinances. With units taking longer to sell, borrowers have considerably more flexibility when working with a short-term lender to affect a price reduction strategy when banks with a lien on a property will often disallow 10 to 15 percent reductions in release prices. 

A $27.5 million acquisition loan recently closed by BRT is an example of a property that benefited from the flexibility and speed inherent in working with a short-term lender. The property is a sprawling, 240-unit garden apartment complex of two-story buildings in Apopka, Florida. Though there was water damage, the property showed well and appeared that it could easily and successfully be converted to condominiums. A similar $48.5 acquisition loan was also recently closed for a 372-unit condo conversion in Tampa. Another example is a $11.95 million first mortgage loan for the refinance of 15 unsold, luxury hotel condominium units in Ft. Lauderdale.

Geography brings up real estate’s mantra of location, location, location. While the previously super-heated Miami market is suffering major corrections, South Beach is still strong insofar as condo conversions, and markets such as Orlando and Tampa are experiencing only modest declines of 10 to 15 percent. With demographics heading south, partially fueled by the retirement of the first wave of the country’s 70 million baby boomers, markets in North and South Carolina, particularly, will show a lot of activity. 

As this year plays out on the Southeast real estate landscape, rapid lending responses for those in unusual circumstances based on market decline, as well as those owners seeking to take advantage of exceptional acquisition opportunities and south-moving population demographics, will be fueling demand for short-term lending services. 

Jeffrey Gould is president and CEO of BRT Realty Trust, a Great Neck, NY-based public mortgage REIT traded on the New York Stock Exchange.


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