Seniors housing owners struggling with low occupancy and maturing debt have found themselves in a state of financing limbo. Preferred lenders that cater to the industry, including FHA/HUD, Fannie Mae and Freddie Mac, won’t consider providing a mortgage to properties that are not stabilized. Operators need time to remedy the problem amid COVID-19’s detrimental influence on resident recruitment and other operations.
The situation is particularly challenging for developers who have recently completed projects but are experiencing longer-than-anticipated lease-up periods and may not have qualified for any federal aid programs. What’s more, some existing seniors housing assets that are changing hands today may no longer be eligible for new permanent financing because of low occupancy and net operating income (NOI) levels.
“The seniors housing industry continues to be pretty beaten up, and many asset owners are having a hard time climbing out of the occupancy trough,” says Steven Muth, a managing director for M&T Realty Capital Corporation, the commercial mortgage-banking subsidiary of M&T Bank.
Some owners, however, may be able to use short-term bridge loans to improve their condition and secure long-term financing down the road, Muth adds. M&T provides bridge loans as a balance sheet lender for generally 12 to 30 months, and is assisting borrowers with breakeven or better operating performance to obtain temporary financing while the industry battles to rebuild census and stabilize operations.
At the same time, M&T Realty Capital will begin to arrange permanent financing in anticipation of the borrower achieving an occupancy benchmark of 85 percent by the time the bridge loan matures.
“Performance might not be perfect or back to pre-COVID levels, however, you can still take advantage of extremely attractive rates, obtain a few years of interest-only payments and remove any recourse tied to a bridge,” Muth says. “In the case of Fannie and Freddie, you might be able to go back for an equity out supplemental in a year if performance continued on a positive trajectory,” he explains.
Indeed, interest rates on M&T bridge loans for seniors housing borrowers are roughly 275 to 400 basis points over the Secured Overnight Financing Rate (SOFR), which is currently 0.05 percent. Long-term Fannie Mae and Freddie Mac replacement financing is typically priced at about 195 to 265 basis points above the 10-year U.S. Treasury yield, which generally had been bouncing around 1.3 percent for the last several weeks.
Bridge loan financing can also provide additional dollars for renovations that can make seniors housing properties more appealing to prospective residents. Earlier this year, for example, M&T made an $12 million acquisition loan that included about $600,000 in capital expenditure proceeds, Muth points out.
Still, the terms of any seniors housing loan package depend on the sponsor, location, fundamentals and other criteria, and lenders want to avoid having to refinance one maturing bridge loan with another.
What’s more, challenges presented by the pandemic and inflation have added complexity to seniors housing loan underwriting. In particular, the rise in Delta variant cases, even among vaccinated residents, and the reluctance of some health care workers to get vaccinated amid an existing labor shortage are the latest wildcards to muddy the industry’s outlook.
For those reasons, when seeking financing, seniors housing owners and operators need to ensure that financial projections are realistic in an unsettled environment, Muth explains. Among other operational metrics, M&T scrutinizes the following:
- Staffing and wage schedules. Are operators meeting state requirements, and are they prepared for regulatory changes? “We’ve seen a lot of pro formas where operators haven’t underwritten the minimum wage rates that the state is going to adopt,” Muth says. “That’s a clear-cut sign that they haven’t done their homework.”
- Lease projections. Expectations of higher leasing rates than what the actual absorption rate was in the in the months or years leading up to the pandemic can be a cautionary sign. Lenders want to see solid rationale supporting such an outlook, including robust marketing data such as inquiries, “hot leads” and conversion ratios. “If you don’t have that sort of reporting, it’s not going to be viewed favorably,” Muth declares. “It indicates that you may not have a good handle on what you’re using for baseline assumptions within your lease-up projections.”
- Revenue and expense. Lenders tend to hit pause on an application when they see promotions promising to lock in rental and care rates for the life of the lease. It’s a problematic approach because insurance, property taxes, labor and other expenses are all increasing. Consequently, when determining whether an asset is eligible for longer-term Fannie Mae or Freddie Mac financing, underwriters look at whether projected revenue growth illustrates an ability to refinance the agency debt in ten years in light of those increasing costs. “You’re happy to have the residents today — it’s certainly better than an empty room,” Muth adds. “But short-term solutions can lead to even worse long-term problems.”
The pandemic has delivered a blow to seniors housing owners and operators, many of whom are under pressure to enhance occupancy and secure long-term debt. The good news is that financing alternatives at attractive interest rates do exist, and, to date, property valuations have largely held up, Muth says.
“There’s no shortage of challenges right now,” he concludes. “But there is still an opportunity for seniors housing properties struggling with vacancy to build a bridge back to stabilization.”
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