By Noel Cain
Weve just passed the one-year mark for self-storage as an approved property type for Small Business Administration (SBA) loans with the passage of the Small Business Jobs Act of 2010. During the past year, the industry has started to learn the capabilities and limitations of the two loan programs (7A and 504), along with which borrowers qualify.
The SBA recently released its annual update to the qualifications, which bring additional turns and twists to the programs. Lets review each of the program's capabilities and how the changes will affect self-storage financing in 2012.
There are two types of SBA loans available to the self-storage industry: SBA 7a and SBA 504. SBA 7a is typically a variable-rate program with a three-year prepayment penalty. Its designed for borrowers who:
- Have multiple uses of proceeds (real estate, equipment, working capital, etc.)
- Typically have a loan-to-value (LTV) in excess of 90 percent
- Want to refinance
- Have a shorter holding period
In general, 7a borrowers are willing to take on interest-rate risk in exchange for proceed-use flexibility and additional leverage. The 7a program will allow for additional funds with uses in self-storage such as, but not limited to:
- Facility expansion
- Installation of a kiosk
- Establishment of a marketing program
- Installation of security features
- Capital for repairs
The SBA 7a program is commonly structured with a prime-based rate that resets quarterly, and a fully amortizing 25-year loan with a prepayment penalty during the first three years. This loan is typically pooled and sold to investors. There are instances in which banks will offer a fixed-rate period in cases where loans are held by the lender for the entirety of the term. These fixed-rate deals typically face tougher underwriting standards and lower leverage points.
Generally speaking, loan amounts up to 90 percent of value are achievable. However, loans must provide a minimum debt-service requirement of 1.25:1. In cases of higher leveraged transactions, collateral for the loan is not limited to the subject financed property. Often the lender will take a pledge of equity in other assets that may include other rental real estate, deposit accounts or equity in a primary residence.
The SBA has not established any significant new changes to the policy and procedures for 2012 as it relates to the 7a program. Borrowers will continue to have the program available for both acquisition and refinance. We expect more lenders to offer their SBA programs to self-storage borrowers in 2012 as they become more comfortable with self-storage as property type.
SBA 504 is a two-party loan program with the ability to fix at least a portion of the debt up to 20 years. However, the program carries a 10-year prepayment penalty. Its designed for borrowers who: have a long hold period, have a single use of proceeds (real estate or equipment), or want to build a second location.
In general, 7a borrowers are willing to take on interest-rate risk in exchange for proceed-use flexibility and additional leverage. SBA 504 borrowers sacrifice flexibility and have limited use of proceeds, but are able to secure long-term fixed-rate debt.
One additional advantage to the 504 program is it allows for new construction with leverage up to 90 percent with specific limitations. New construction is limited to additional locations by an established owner/operator with the same borrowing structure. Borrowers adding new partners or without prior experience will have difficulty using this program for construction purposes. Primary location(s) will also have to support the additional debt of the new location at or near a 1.25 to one times ratio. The program can certainly be seen as restrictive. But for borrowers who qualify, they can take advantage of near record low interest rates at leverage levels that are rarely seen in other lending programs.
Through the SBA 504 program, a borrower will work with a traditional SBA lender for a portion of the loan and also a Certified Development Corporation (CDC) for the 20-year fixed-rate portion. The traditional lender may offer a floating or fixed rate that will be blended with the 20-year fixed rate CDC portion to come up with a weighted cost of capital.
As recently as the fourth quarter, the rate on the fixed portion of the loan was as low as 4.9 percent. Its typical that both the traditional and CDC lenders frequently work together so a borrower can expect there to be a working relationship already in place. However, hiring a mortgage intermediary can help keep all parties on track and communicating accordingly.
Refinance With 504 Now Available
Recent changes to the SBA guidelines include the addition of the 504 temporary-refinance program. Previously, this was only available through the 7a program. This program will allow borrowers to use the long-term 504 programs for refinancing debt through Sept. 30, 2012.
Borrowers who want to take advantage of the refinance program should act quickly to identify qualified lenders, as its unclear if the program will be extended and its not uncommon for a refinance to take up to six months to complete.
Its important to consider the type of lender you choose. Certain lenders have preferred status with the SBA, which allows them to fund a deal after approval. Others have to approve the transaction internally and then submit a complete underwriting package to the SBA for its approval. The latter may take longer to close, as the SBA approval depends on the workflow of the SBA office.
Lastly, its important to understand that some borrowers will not qualify for either program. SBA loans are limited to active owners. This active role of the owner is an important distinction in the SBA world, as the programs are intended to fund small-business owners actively involved in their enterprise, not investors seeking passive income streams. In addition, borrowers with extensive liquidity (typically greater than the loan amount) and net worth that exceeds $15 million will be deemed too big for the program.
Borrowers who do qualify for either program will have the advantage of adding a capital source to their list in 2012.
Noel Cain is a vice president at Chicago-based The BSC Group, where he provides mortgage brokerage, financial consulting, and loan-workout solutions to self-storage real estate owners nationwide. To reach him, call 847.778.4661; e-mail [email protected]; visit www.thebscgroup.com .