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It’s Got Merit! Proving to Self-Storage Lenders That Your Project Can Succeed

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Even in this topsy-turvy economy, lending opportunities are still available for those seeking self-storage capital. However, availability doesn’t automatically equate to approval. To get the funds for your next acquisition or development, you need to prove your financial merit. Here’s how.

The self-storage industry is extremely profitable and competitive these days. Financers want to invest in this asset type despite three years of a pandemic economy and high inflation. Lenders are excited about the business and will offer a competitive loan package—provided you show them you’re someone who can succeed.

We’re at an interesting time in the self-storage industry in which interest rates are rising but the cost of building materials is slowly depressing. That means that if you’re looking for a construction loan, you’re well-positioned to find financing. The numbers can really work in this scenario because you can still build a profitable project, despite higher rates. Also, new facilities tend to stabilize and increase in value quickly after they’re built.

On the other hand, purchasing an existing facility is difficult in this market since you’re dealing with higher interest rates and compressed capitalization rates, which means you need a higher equity injection (down payment) to make the property cash flow. A construction loan’s leverage is based on the cost to build, but the cost of an acquisition is related to the income the property generates. An established facility originally built for $12 million could now easily be worth $20 million.

A loan for either endeavor can be obtained in the current market, but you need to put your best foot forward and show lenders you’re worthy of obtaining a competitive loan quote. That includes creating a competent plan for the purchase, renovation and management of your self-storage asset. Remember, a lender is investing in you every bit as much as your project, so be ready to prove you’re worthy. The following tips will help you secure competitive financing for an acquisition or ground-up project.

Acquisition

If you’re purchasing an existing self-storage facility, obtain details on the historical and current income of the property. There are many mom-and-pop facilities that don’t keep detailed financial records, but if the asset lacks clear historical data, it’ll be difficult to secure prime lending. You must have detailed income statements including tax returns, current-year profit-and-loss statements and occupancy reports.

Be mindful of occupancy types. Physical occupancy refers to the percentage of units that are filled, while economic occupancy is the current gross rent being collected as a percentage of the facility’s total income potential. A property with 100% physical occupancy might seem attractive, but not if 50% of the tenants are renting at a discounted rate. If economic occupancy is in line with physical occupancy, it’s more appealing to lenders.

Lenders also want to know about your proposed management structure. Who’ll run the facility? Will it be a partner, employees or a third-party management company? Do they have experience? Is the management team local? These questions matter, and you must have answers to them to convince a lender to work with you.

Most important, you need a strong argument for the value your ownership will bring to the property. This is where a personal résumé or management bio is useful to gain underwriting support. A lender wants confidence that you’ll be able repay the debt, so show them how you’ll improve the business. You’ll need to articulate the value you will add, plus a clear plan on how to achieve it. For example, if you intend to add more self-storage units, include market research that shows they can be supported by local demand.

Doing these things will give you a better chance of qualifying for a self-storage loan. However, it’s worth noting that an acquisition will probably require you to put more money down, and the loan will be at a higher interest rate in the current lending market.

New Construction

Lenders are very interested in funding self-storage construction, however, getting a loan approved requires detailed cash-flow projections covering the first 36 months of construction and operation, well-documented personal financials and, most important, a feasibility study. A crucial first step is to gain control of the land. This should be through ownership or escrow, with a sufficient due-diligence period to secure permits and financing. A bridge loan might be necessary if the land can’t be acquired with cash.

Once you have the land, you need to get approval from the municipality to build. This means hiring the right lawyer, architect and engineer to work with government officials. Your team will ensure your proposal is up to code. The best-laid plans mean nothing if you don’t have the permits. This is where many investors stumble out of the gate—if you don’t get approval from city officials, you won’t get a loan.

You also need a feasibility study to help justify the project to lenders. Hire this study early in the process, preferably before the land purchase. It should be conducted by a third party who’ll look at your location, site plan and income projections to evaluate the pros and cons of building in this market.

Income projections will be necessary. The lender’s underwriters will use this information to determine if the site can repay the loan request. It’s best to provide a 36-month forecast at the start of construction. The monthly breakdown will show development expenses along with the occupancy ramp-up.

Lastly, you want your pitch to include a well-researched estimate of the total project cost. This means getting a real bid from a general contractor. Include development and land acquisition, third-party expenses, and a contingency of about 10% on hard costs. This total budget will be used by the lender to determine a loan amount. Also, avoid large changes to the budget once the lender is engaged, as this can come across as poor planning or lack of experience. Alterations can cause major delays and put your funding at risk.

Prospective self-storage owners can find a loan to enter this market provided they do their research. Read through your request. Would you lend money to yourself? How might your project fail, and how will you address this? A good way to find these blind spots is to hire an experienced brokerage firm that can help you create a well-researched application.

Dave Kotter is the principal of Integrity Capital LLC, a Scottsdale, Ariz.-based commercial-mortgage brokerage that’s closed more than $1 billion in loans. He’s helped self-storage owners find financing nationwide. For more information, call 480.422.4525.

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