Self-Storage Financing in Today’s Uncertain Market: A Guide to 2024 Lending Options

Are we headed into a recession? Is the Federal Reserve done raising rates? Are more banks going to fail? Is inflation going to slow down? Will self-storage capitalization rates increase to justify rising finance rates? When will they come back down? These are all good questions with no easy or reliable answers.

All we can do is move forward with what we know. With the Fed expected to raise rates another quarter point before year’s end, we can look forward to more of the same for at least the next six to 12 months. Of course, everything can change in November 2024, depending on the political winds and the policies of whoever might be our next president, not to mention outside international influences with China, Iran and Russia.

As many of us have discovered, underwriting has tightened, and the increased interest rates have affected available leverage on purchases and refinances. Loans that used to be available under 4% are now in the 7% range or higher for banks and credit unions, and low 6% to low 7% for life companies. Commercial mortgage-backed securities (CMBS) loans are also in the high-6% to mid-7% range. You might obtain low leverage, in which you can get pricing in the mid-6% range at best.

While many self-storage borrowers are looking for shorter three- to five-year fixed-rate loans as they anticipate rates will come down, they’re still about .25% higher than a 10-year fixed due to an inverted yield curve. If they’re right, it’s probably worth paying the extra rate, but will these numbers drop?

History says we’re about where we should be and maybe even a little lower. The average 10-Year Treasury Yield over the past 61 years is about 5.9%. Today, it’s 4.9%. In fact, starting at the most recent recession (2008-2011) when the 10-Year Treasury dropped continuously all the way down to .52% in 2020, the prior averages were 4.9% (1998-2007).

There has definitely been a change in lending, with some financers on pause while they get their deposits in order, completely dropping out, limiting volume, and reducing leverage to achieve better debt coverages or credit ratings. While the institutional lenders have pulled back, most life companies have remained active, as they’re not handcuffed by the same deposit issues. Some are seeing record years, and others are still lending but at much less than anticipated volume due to lack of purchase and refinance activity.

CMBS shops have money to put out, but with higher rates not locked until closing, it’s adding to borrower anxiety. Offering full-term, interest-only at higher leverage than most can be a winning card, though.

While permanent lending volume is down, bridge and construction requests remain steady. Self-storage borrowers looking to finance conversions, additions and renovations can expect rates in the 8% to 9% range at best, and likely double digits. Ground-up construction requests are seeing lower loan-to-cost (LTC) ratios (50% to 65%) on rates tied to Prime (8.5%) or term SOFR (5.3%), ending up with overall rates approaching 9% or higher.

Small Business Administration (SBA)

The SBA offers construction to permanent and straight permanent-debt options. For construction loans, you can use the 7A adjustable-rate or 504 fixed-rate program. The developer’s equity requirement is typically 15% to 20%. The 7A max is $5 million, while the 504 max is closer to $12 million when combined with a bank as the first lender and SBA as the second, though there are ways to increase the total loan amount up to $17 million with “green” add-ons.

The 7A pricing is typically Prime (8.5%) plus a margin of .5% to 2.5%, depending on lender. The 504, which is a combination of a 50% loan-to-value (LTV) bank first mortgage and 40% LTV SBA second mortgage usually has better pricing. The bank first-term deposit (TD) can be in the 7% to 9% range, while the SBA debenture second TD, which is a 25-year fully amortized loan, is about 7.1%.

On refinances, the SBA doesn’t typically allow cash out without the funds going back into the property. Purchases and refinances follow the same pricing as the construction loan above. SBA and guaranty fees are approximately 2.75% on permanent loans and generally 1% on the construction piece. SBA lenders can vary greatly, so shop around.

Banks and Credit Unions

The lenders that are still active will offer mainly three-, five- and seven-year fixed rates. Ten years fixed is hit and miss and generally not priced well. Total term may still be 10 to 15 years but be in multiple three- or five-year terms with rates resetting between each period. Amortizations of 25 to 30 years are still available, and leverage typically maxes out at 65% or even 70%. Expect spreads over corresponding treasuries to range from 2% to 3% equating to rates in the mid to high-6% to mid-7% range.

Loan amounts can start at or below $500,000, with maximums varying by lender. You can typically expect a loan fee of 1%, but it can be lower. Generally, an appraisal and phase-one environmental report are required.

Other fees can include processing, documentation and/or underwriting, ranging from $1,500 to $2,500. Some lenders also have legal fees, which can range from $3,000 to $5,000. Prepayment penalties vary from none to a step down or declining percent each year. In some cases, especially as it relates to longer term-fixed rates, a swap prepay penalty can be in play.

Construction loans are mainly made by banks, but a few credit unions will delve into this. Generally, LTC ratios are 60% to 65%, but you might find some higher. Rates are typically priced over Prime or Term SOFR and are in the high single to low double-digit range. Terms are generally 24 to 36 months for construction followed by a permanent loan rollover, which can vary by lender. Because construction loans are considered risky and the banks need to offset them with liquidity, a significant deposit relationship may be required. This can even be up to 30% of the loan amount and be required on a permanent loan.

Life Companies

Life companies generally work through correspondent mortgage bankers who originate and service the loans. The spreads start around 1.5% over Treasury for low-leverage deals (50% or less) but are generally in the 1.75% to 2.5% range over the corresponding Treasury. Most life companies prefer fixed terms of 10 years or longer, but some are offering five-year fixed rates to garner business that might go to other lenders as they know borrowers are looking to refinance when “rates come down.”

Though life companies can offer fixed rates for longer terms (15 to 30 years), they aren’t seeing a lot of requests for that product at this time. Amortizations are generally 25 to 30 years. Borrowers can mix and match term with amortization such as a 15/30, 13/13, 10/25, 15/15, etc., as self-amortized loans are generally priced better. Forward rate locks up to 12 months in advance may be available.

While the max LTV is up to 75%, the reality is most loans are getting done closer to 60% to 65% or less due to underwriting rates or wanting a higher debt-coverage ratio of 1.50 to achieve a CM1-rated loan. Life company loans start around $1 million.

There are dozens of life-company lenders and all are uniquely different. For instance, The Standard and Symetra Life Insurance Company offers fully amortized loans in increments of three-, five-, seven-, 10- or 15-year options and sometimes even a 20-year fixed. That said, program offerings can change at any time due to market conditions whereby, for instance, only a 10-year fixed might be offered.

Both of these lenders are also generally full-recourse but partial- or non-recourse options can be available with lower leverage requests. They also don’t require ALTA Surveys unless the title company asks for it, no property-condition reports and have no lender legal fees. They only ask for an appraisal, phase one and sometimes an environmental screen. Lender loan fees are 1% for Standard and none for Symetra. In both cases, the correspondent mortgage banker generally charges a 1% origination fee. Most other life programs may have fully amortized options, but the standard is a 10- to 15-year fixed with 20- to 30-year amortization and non-recourse.

The typical loan process starts with an application with terms already issued and a 1% refundable deposit. The rate is locked for 90 days. About three weeks later, a commitment letter is issued, along with another 1% refundable deposit. Third-party reports are ordered but can be started earlier and include an appraisal, phase one, property condition, ALTA survey and zoning report. The total closing time is generally 60 to 75 days. Lender legal fees range from $10,000 to $20,000. Prepay penalties vary and can be negotiated in some cases. Impounds are typically not required.

CMBS

The CMBS market is fluid, with five- and 10-year fixed programs offered with 30-year amortization. Rates aren’t locked until closing and are priced over the Treasury swap. Margin or spreads can change from the initial application. CMBS can often provide more non-recourse leverage than life companies but are typically more expensive in most of the areas noted above. The same third-party reports are needed.

Legal fees can approach $30,000 to $35,000. Interest-only options are more readily available, including full-term. There are no refundable deposits required, but a $50,000 upfront deposit is generally needed to cover legal and reports. CMBS also generally impounds for taxes and insurance and replacement reserves.

There are a few unique CMBS programs offering capped costs of $30,000 to $35,000 (legal and third-party reports). Those loans start at $1 million and up, while most other programs begin around $2 million to $3 million to make sense of the costs.

The takeaway for 2024 is that unless you have to refinance your self-storage asset due to loan maturity, a need for cash out, or a high-rate SBA or bridge loan you need to remove, it’s best to stay put. This is especially true if you have a good rate and your loan has at least two to three years left. If you need funds, your existing lender may provide a second mortgage, which, even at higher rates, may make sense rather than give up a low-rate existing loan. Equity loans may also provide needed capital.

If you’re purchasing a new self-storage facility, a bigger down payment may be required. Hopefully, you can obtain a loan with a prepay penalty that allows you the flexibility to refinance if rates come down.

David Smyle is a vice president of San Diego-based Pacific Southwest Realty Services, a commercial-mortgage banking firm founded in 1972. It represents life-insurance companies, banks, private capital and other credit facilities seeking investment in real estate secured assets. Before Pacific, Smyle was owner and president of Benchmark Financial for 16 years and spent 12 years in commercial banking. To reach him, call 858.522.1411; email [email protected].