Beyond Coastal Power Centers, Small Balance Loans Key For Financing U.S. Multifamily

Overbuilding in the luxury multifamily sector has started to impact rental prices.

In New York City, landlords lowered rents on 34% of rental units in Q4, according to StreetEasy. The price drop reflects growing pressure nationwide among Class-A multifamily owners attempting to stay competitive in saturated markets. Of the estimated 360,000 apartment units to be completed in 2018, thousands are Class-A product in top-tier markets like New York City, Los Angeles and Dallas. 

While Class-A investment has begun to soften, outside of top-tier markets, smaller, stabilized apartment complexes drive investment activity for their high demand among middle-income renters. While banks have stuck to the coasts and luxury projects, agency lenders like Hunt Mortgage Group have helped fill the financing gap in secondary and tertiary markets. 

“Agency loans like Fannie Mae and Freddie Mac allow lenders to expand into more markets,” Hunt Mortgage Group Director Mark Besharaty said. “It is far more exciting and beneficial to be lending in these regions because there is a scarcity of conventional bank financing.” 

In the post-recession real estate market, multifamily became an investment darling. Vacancy rates dropped, leading to steady rent growth across Class-A, B and C assets. While high returns have investors seeking out conventional loans, there is a significant number of investors in the small loan space under $7.5M looking to invest in smaller projects, Besharaty said. 

“High-rises get the most press, but the majority of the renting population resides in smaller complexes,” he said. 

Overconstruction of luxury properties has since led to a slowdown in rent growth and rising concessions in primary markets, which often see the bulk of conventional loans. Up-and-coming areas like Raleigh-Durham, North Carolina, and Columbus, Ohio, offer larger supplies of stabilized, Class-B multifamily. 

Colliers International forecasts that Raleigh rents will grow 3.1% annually from 2018 to 2021 and Durham's will grow 3.4% in 2018. Columbus boasted 96.7% multifamily occupancy in the first half of 2017, and has the fourth-lowest homeownership rate of major U.S. cities. 

As improved livability continues to draw young, working-class professionals to these markets, small balance loans allow investors to capitalize on increasingly popular areas. 

In Sacramento, California, another secondary market, Besharaty closed a Freddie Mac small balance loan of $5M to finance the acquisition of Arden Villas, a 72-unit, low-rise-style apartment complex. The property was 96% occupied at the time of the acquisition, a testament to the demand for workforce housing. 

“Sacramento is a big city, but it has a smaller availability of capital than San Francisco,” Besharaty said. “The financing we offer appeals highly to property owners in these markets. Through the savings we offer, the owners can, in turn, provide needed affordable housing to families in the communities in which they operate.”

Agency loans offer competitive loan terms and added incentives for initiatives like affordable housing or energy efficiency upgrades. Loan products such as Fannie Mae’s hybrid adjustable rate mortgage, for instance, give borrowers in secondary markets access to financing with 30-year fully amortizing loans, no balloon payment, no underwriting floors and no exit refinance tests.

Fannie Mae and Freddie Mac have the appetite to lend across all markets, but agency lenders still look for investors with experience in the market, Besharaty said. 

Throughout the life of the loan, borrowers have access to Hunt’s agency loan expertise and servicing. Hunt is a Delegated Underwriting and Servicing lender for Fannie Mae and a licensed Freddie Mac seller/servicer. Fannie Mae and Freddie Mac regularly visit Hunt’s offices to discuss multifamily market trends and tweaks to their loan programs.

“Fannie Mae and Freddie Mac do not typically interact with clients directly in the small balance loan space,” Besharaty said. “We act as a bridge for the borrowers and the agencies. We provide a human touch.”

Continued Class-A development will lead to increased softening of tier-one rental markets, Besharaty said. While this will not have an immediate impact on the small balance loans market, the push for landlords to lease up an oversupply of luxury buildings could lead to a shuffling of the type of renter who occupies high-end units. 

“Class-B properties are now being occupied by people who are in a Class-C category because Class-B renters have been incentivized to go into Class-A,” Besharaty said. “If development is predominantly confined to Class-A properties, the majority of the rental population that needs access to more affordable housing will be displaced. Hunt’s offering of the Freddie Mac and Fannie Mae small balance multifamily loan products helps alleviate the shortage of affordable rental housing throughout the U.S.”

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