Bridge Loans for Properties with Multifamily Units
Commercial real estate financing might be intimidating for novice investors. Specifically, the several sources of funding may be somewhat intimidating. Bridge loans, for instance, provide investors with a flexible source of short-term finance. What, though, is a bridge loan? This article provides an introduction to bridging loans for multifamily buildings.
Specifically, the following themes will be discussed:
- What is an interim loan?
- Bridge Loans for Apartment Buildings
- Final Reflections
What Is An Interim Loan?
Overview
Until investors can get permanent funding, bridge loans serve as short-term financing (i.e., a long-term mortgage). Individual maturities vary, but commercial real estate bridge loans often have periods between three months and one year. And unlike more permanent forms of finance, which may take a long time to finalize, a bridge loan can be closed much more rapidly.
Advantages
This third argument addresses the critical benefit of bridge loans: swiftness. The closing time might run up to 90 days when a real estate investor files for a permanent mortgage on a multifamily property (or more). In contrast, borrowers may get bridging loans in as little as two weeks. This quickness may be vital for the success of a time-sensitive trade.
In addition, lenders apply stringent criteria to borrowers and linked properties while examining applications for permanent mortgages. For example, before closing, most lenders demand a property satisfy a particular stable lease-up requirement – often as high as 95 percent. With a bridge loan, you may circumvent these regulations, rapidly close on a sale – regardless of the property’s present occupancy – and put the property into service.
Disadvantages
Despite their quickness and adaptability, bridge loans have several intrinsic downsides, including a high cost. In exchange for the benefits mentioned above, bridge loans have higher interest rates than traditional mortgages. Depending on the transaction and borrower, the interest rate on a bridge loan may be 3 to 10% more than the market rate for permanent loans. In addition, these loans often have substantial closing costs, an additional expense to consider when developing a multifamily underwriting model.
Before applying for a bridge loan, real estate investors should consider the following advantages and disadvantages.
Bridge Loans for Apartment Buildings
In several circumstances, multifamily property developers and investors demand bridging loans. Although not exhaustive, here are three famous instances to consider:
Example 1: Bridge Loans for Time-Sensitive Property Acquisitions
As said, bridging loans often conclude much more rapidly than applications for permanent mortgages. With time-sensitive transactions, this swiftness may be an enormous value.
A broker may list a $5,000,000 apartment complex in a competitive market. You are confident in your capacity to save at least 30 percent of that amount for a permanent mortgage down payment, but it will take time. You may need to sell a few properties from your portfolio, or you may need to present the transaction to several investors. Regardless of the cause, a bridge loan might provide you with the flexibility to A) acquire the property swiftly while B) accumulate the funds required for permanent financing.
Example 2: Bridge Loans for Value-Add Multifamily Transactions
Many investors use a value-added approach to commercial real estate. This strategy involves purchasing a property, renovating/improving the apartments and shared facilities, and raising the rents. As a result of the income-based valuation methodology used in commercial real estate, these higher rents and net operating income result in a rise in property value.
Sadly, some lenders may grant a mortgage for the purchase of a stable multifamily property but not for renovations. Consider the case when you get permanent finance to acquire a fully leased apartment complex. After analyzing the rent roll, you conclude that, with an extra $500,000, you can refurbish each unit over two years, resulting in a 20% rise in rentals.
You may finance the value-added enhancements with a two-year bridge loan instead of spending $500,000 in cash. Then, upon completion, you may have the property evaluated and refinance your permanent mortgage based on the property’s higher worth, therefore paying off your bridge loan.
Example 3: Loan for Covering Delayed Capital Contributions
Numerous multifamily transactions include some kind of deferred capital commitment. For instance, an investor may agree to provide funds, but only after a cost audit has been conducted. This is a typical occurrence in historic tax credit (HTC) transactions.
With federal HTC agreements, developers may get federal tax credits for up to 20 percent of QREs, or qualified rehabilitation costs. Consequently, a $5,000,000 refurbishment may result in $1,000,000 in credits, which an investor can purchase for 80 cents on the dollar – $800,000 (NOTE: HTC investors cannot technically “buy” these credits, and the transfer rate changes with the market).
Before making the total cash commitment, this same investor may want to check that the developer can complete the rehabilitation process and receive approval from the National Park Service, which oversees the federal HTC program. This clearance involves a CPA firm’s cost audit of QREs. Consequently, a developer may not get this $800,000 for at least a year, i.e., throughout the development, construction, and cost audit phases.
Consequently, several HTC developers need bridging financing. In this case, a bridge loan might cover all or a part of the federal investor’s $800,000 commitment to HTC until it is completed.
Final Reflections
As with other commercial real estate financing alternatives, bridge loans have specific advantages and disadvantages. They may be exceptional instruments for closing a sale in the appropriate circumstances. Before getting one, however, investors must measure the speed and flexibility against the additional expenses.
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