When evaluating financing for Multifamily acquisitions, we often face a few different choices to choose from. The lending environment is always changing, and the impact it can have on an opportunity, deal flow and cap rates can be significant. The types of debt that are most common are agency, bridge and bank loans. Understanding and evaluating the parameters and limitations of each is critical when looking for optimal leveraging strategies for multifamily success.

What is agency debt?

“Agency” debt is financing issued through government-sponsored Enterprises (GSE’s), namely Freddie Mac and Fannie Mae. Their government-backed natures and competitive interest rates make them attractive options in the multifamily space. Freddie Mac and Fannie Mae do not offer these loans directly, but work with agency-licensed private lenders to make these financing options possible. They buy and guarantee mortgages issued through approved lenders in the secondary mortgage market.

GSE’s are mandated by congress and they provide the mortgage market stability, enhanced liquidity, and affordability by providing liquidity and guarantees to thousands of banks and mortgage companies. This in turn can provide borrowers or sponsors of an acquisition access to capital across a national footprint, as long as the borrowers or sponsors meet the required deep multifamily experience, net worth and liquidity.

Agency loans traditionally have lower leverage than private loans and tend to have lower interest rates. They are also non-recourse, meaning that the debt is secured only by the loan collateral (e.g. the apartment community). A non-recourse loan limits the liability of the borrowers, restricting the lender to only being able to seize the collateral asset, even if that property does not satisfy the loan obligation in full. These loans will, however, carry standard carve-out recourse guarantees, known as “bad boy” guarantees. With evidence of “bad boy” acts by the loanee (.i.e. fraud, material misrepresentations, unpermitted transfers, or any acts that would prevent the lender from enforcing its collateral), there can be recourse. Agency loans are limited to stabilized assets and usually carry a penalty for paying off the loan early. Stabilized assets are properties with 90% or better occupancy for at least the last 90 days.

What is a bridge loan?

A bridge loan is a short-term loan used until permanent financing is secured or obligation paid off. This type of debt is provided by private institutions and not backed by the agencies. They tend to have higher leverage than agency debt and your capital expenses can be included in the debt, versus just the purchase of the asset. The loan can also be non-recourse and the asset doesn’t have to be stabilized, unlike agency debt. However, interest rates tend to be higher due to the higher risk and shorter term. They are typically for a 1-, 2- or 3-year term with extension options. For properties that are renting "below market" or need a lot of capital investment, bridge loans can be a great choice.

During the initial COVID-19 shutdown, bridge lenders stopped lending. Once they saw recovery and felt comfortable lending again, bridge loans began to open back up. To make up for the lending gap, rates became very competitive. As interest rates have risen, agency loans carry more attractive rates again.

How is bank debt different?

A big difference between bank and agency debt is that most conventional bank loans require personal guarantees from the key sponsors of the acquisition, collectively known as the guarantors. Should said guarantors default on the loan, the lender may go after these borrowers’ personal assets, including bank accounts, residential properties, cars, and/or business assets. Since this debt is offered by private lending institutions, there is no government sponsorship.

Another difference is that most multifamily commercial loans initiated through banks are held by these institutions from the point of origination to payoff, becoming part of the bank’s portfolio holdings. Banks thus try to limit their risk exposure to each individual investor by employing stricter scrutiny of the borrowers’ personal finances as well as by applying lending limits. A small regional bank, for example, may be willing to lend up to $20 million per commercial customer, preferring to spread their risk across a broader pool of borrowers.

Banks also tend to focus on specific geographical markets, sometimes even targeting specific submarkets or neighborhoods. These lenders have deeper ties to the communities they serve and may have a greater understanding of an undervalued asset’s potential, which can offer up an opportunity to purchase a property that may otherwise not meet federal agencies’ stringent review.

The Bottom Line

There are different financing options for different projects, and certain options are better equipped for different objectives. This is why it is important to uncover which debt option is best to fulfill the objective for each acquisition and maximize your returns. We, at Bluefox, do this every time so our investors don’t have to.

Let’s connect to see how Bluefox Ventures can help you diversify your portfolio by investing in alternative assets like multifamily real estate.

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