How Do You Leverage the SBA CDC/504 Program to Finance Your Property?
The SBA CDC/504 loan program was designed with several goals in mind. For starters, it was created by the SBA to be a job creation program. Secondly, it was designed to encourage lenders to participate in industries that they would not normally lend in. Lastly, the program was set up to provide higher LTV financing options for small business owners. The last point is the most impactful because higher LTV loans also means smaller down payment requirements, which is important to small business owners for two reasons. Lower down payments than would be required in traditional banking structures draws more potential buyers into the market, and the lower down payments also help small business owners preserve capital that may be used in their businesses (a.k.a hiring more employees) instead of having that capital trapped in their real estate.
The impact on lenders is also tangible in that the structure of the SBA CDC/504 loan program is such that the lender is in a 1st lien position at 50% of the total project costs, with the SBA/CDC taking a 2nd lien position at up to 90% LTV (funded by a Certified Development Company – CDC). This attractive lien position entices the 1st lien lenders to participate in loan structures at LTV’s that they would not normally consider because the SBA/CDC is taking the 2nd lien, riskier position. Small business owners can then typically expect to contribute 10% of the total project cost as a down payment (15% for special use properties).
So, the trick to leveraging the SBA CDC/504 program is to understand the requirements of the SBA, the selected CDC, and the lender. But don’t be overly concerned about any perceived complexities of the program. Any good 504 lender will act as a guide and shepherd the small business owner through the entire application and funding process.
With this in mind, one might say that the real trick to leveraging the CDC/504 loan program is to work with a lender who really understands how to navigate through the process, and who has a history of successful closing with CDC offices.
There are some limitations with the SBA CDC/504 loan program, which include that it is only for real estate and/or certain types of major equipment, it can only be for properties where the business borrower/property owner occupies at least 51% of the property, and you must demonstrate that the business and business practices are sound.
It is also important to keep in mind that a good set of business projections combined with a solid business plan showing job creation and revenue growth as a result of the proposed SBA/CDC assisted financing is of the utmost importance in qualifying for this program.
In summary, the best way to leverage the SBA CDC/504 loan program is to work with a very experienced lender, demonstrate your ability to repay the loans as well as the how you can foster employment and grow your business.
What Are the Different Types of Private Lenders?
In the private commercial real estate lending industry, there are several types of private lenders 1) a private individual, 2) a private equity fund or firm, 3) a family office, 4) a hedge fund, and lastly, 5) a self-funded specialty finance company.
There are also subsets within these types of private lenders, those who go after more risky loans at higher rates, often referred to as hard money, those who look for less risk at moderate rates, and those who are very conservative and look for unique situations where a lower rate is appropriate.
Some private commercial real estate lenders focus on income producing properties only, while others focus on transitional or distressed properties, and others on construction or land loans, and some private lenders go after more than one focus.
There are also private lenders that make SBA loans, and some that make loans but will also put equity into real estate projects.
Different private lenders also offer different terms, however in the industry of private lending, most lenders look to provide short-term interest only bridge loans, while some also offer long-term fully amortized loans.
A common capitalization model for particularly private equity firms and funds that provide commercial real estate financing is the raising of some capital from private equity investors, blended with lower cost money from institutional or bank credit lines.
There is also a big differentiator between discretionary lenders and lenders who must seek the approval of their backer. With a discretionary lender, there is usually a single fund manager or sometimes a credit committee who have the discretion over deploying capital.
With a nondiscretionary lender typically the backer of the lender, which can be a bank or a fund of some sorts, requires that their credit committee approve or decline loan applications, therefore making it more advantageous to work with a discretionary lender to minimize the potential of a late stage file decline by the backer.
A nice blending of the two types of lenders is the use of a private label funding program where a discretionary lender handles everything on the back-end of the customer facing lender, in which case for example when the lender issues a term-sheet, it is really the back-end discretionary lender who has reviewed and pre-approved the loan request, and then generates the term-sheet in the name of the front-end lender.
What Makes Financing Special Use Properties More Difficult?
For starters it’s important to define the difference between multi-use and special-use properties. A multi-use property is often confused as a property with more than one tenant. It can be that, but what really defines a multi-use property is one that can be used across multiple industries by multiple different types of businesses. For example, an industrial building could be used as a warehouse for a clothing company, a manufacturing facility for the auto industry, or a distribution fulfillment center for a shipping company. Simply stated it is one building with multiple potential uses. A special-use property on the other hand has only one use. For example a gas station can only be a gas station. Some other examples of special-use properties are hotels, bowling alleys, or assisted living facilities to name a few.
The difficult nature in providing financing for these property types can be separated into two categories. For starters, since the properties can only be utilized in one industry, there is a more limited number of potential buyers/operators than would exist with a multi-use property. Secondarily, there is typically specific risk factors within each industry related to these types of properties and their operation. This requires specific sophistication on the lender’s side to make sure they understand the industry and relative risks involved. Both instances create more risk for lenders then is realized when lending on multi-use properties. For example, the failure of a specific location can also mean that the micro-market may not support that type of special-use business at that location. More often than not though, a failed location may be tied to bad management. In either scenario future buyers are limited to those with specific industry experience for that type of special-use property.
Having said this though, a specialty asset lender sees the other side of things in that quality special-use properties can often have a strong demand, and therefore is a secure form of collateral to the right borrower. Additionally, many special-use properties are owner operated, which can translate to additional security for the lender. The reason being that owner operators have more at risk than just the real estate. Their business is also their livelihood, which provides additional incentive to make the property a success. SBA programs are often relied upon to help lender’s reduce some of this risk by providing 2nd liens via the SBA CDC/504 loan program.
So, how does a borrower increase their chance of getting a competitive loan on a special (also called limited-use) property? The answer is simple; first have a well-prepared and factual loan package to present to a lender that outlines the specific strengths of the property and industry. Secondarily, and arguably most importantly, find a lender that understands the industry, knows how to lend within that industry, and one that has experience lending on that type of special-use property.
Often bridge loans are used to allow a special use property borrower to secure short-term financing that helps to achieve the necessary milestones to qualify for long-term traditional bank or conventional financing.
With specialty or limited use properties, it is also important to show any other potential uses for the property, as well as what the competitive landscape looks like in the industry for which the property is currently being used.
In conclusion, there are lenders who will finance special use properties, you just have to put your focus on a lender who understands your particular industry and property asset class.