Choosing a lending partner, or any business partner in general, can be a lot like dating. We start by assessing the superficial qualities in a prospective partner, making sure he/she checks all the boxes. After the preliminary “looks good on paper” test, we begin to hope for someone who understands us, supports us through the ups and downs, and ultimately makes us feel special. Wait. Am I still talking about dating? These characteristics sound an awful lot like picking a lender to support your real estate investment needs.
Rates and pricing, especially those that stem from “rate match” types of sales pitches, are the “looks good on paper” attributes of lenders – the promise of a glorious future partnership. But what happens after the new and shiny courtship starts to rub off? (Experienced borrowers may understand what I am referencing). What happens once the term sheet is signed, and the “honeymoon” phase is over?
Much like dating, the true value of a lender becomes more apparent after the initial smokescreen and chase. Rates, as time will reveal, are a relatively surface level component of a deeper, mutually beneficial lender-borrower relationship. Of course, pricing is important to the business goals of any real estate investor. Yet any lender, in efforts to reel in a borrower, can throw an attractive rate out there to “put a ring on it” of sorts. What happens afterwards truly defines the nature of the partnership.
Yet, even if rates were initially matched, it is only one piece of a larger mathematical equation. There may be a host of hidden fees and additional “costs” that lenders will not immediately disclose to a borrower that they are courting. We will touch more upon this later.
In the context of choosing a suitable lending partner, one who will truly support their ongoing business requirements and growth, borrowers should consider the overall value delivered by the lender, not just the rates or even the hidden fees. Investors should evaluate the following three areas before making any commitments: the lender’s expertise and understanding of the space, the lender’s ability to execute in an efficient, timely manner (“certainty of close”), and finally, the real cost or total cost to transact.
Expertise in the Investment Finance Space
While investing in single family rentals (SFR) is not a new concept, the availability of institutional capital, both on the equity and the debt side is relatively new. Prior to the 2008 real estate spawned recession, friends and family, community banks, and “hard money” were often the only options for loans in this sector. However, seeing the opportunity, institutional capital rose out of the ashes to provide other debt resources to investors. Yet, until recently, the space was dominated by a few large firms.
The market has since shifted. There has been a proliferation of lenders who have entered the SFR investment lending space, offering both short-term bridge financing and longer-term rental loans. With lenders vying for loan volume, borrowers benefit from the increased competition through more favorable pricing. The drawback, however, is that many of the new entrants courting investors have a limited experience in either the SFR investment space, or in a specific loan category within SFR investment lending.
Prospective borrowers should vet their lender’s experience and expertise by asking questions that extend beyond price. It is perfectly acceptable to inquire about a lender’s capabilities, the number of loans they have closed, how many homes or units they have financed, or how long they have been providing a specific type of loan. Think of these questions as you would on a first date. “How old are you? Where are you from? What are your favorite things to do? Do you prefer (or are you better at) skiing or jetskiing?”
Lenders who are seasoned in a specific niche or asset class as SFR investment properties, or the various SFR investment loan types will be happy to share this information in detailed and fairly accurate numbers. The more closings that they have completed, the more likely the lender has handled any strange, unintended situation that may arise during the transaction. And, more importantly, this expertise will enable the lender to offer a solution that smoothens the process or even saves the deal.
Ability to Execute – Certainty of Close
The second crucial area for consideration when vetting a lending partner is the lender’s ability to execute, also known as “certainty of close”. No one, lender included, wants to get to the closing table only to find that one partner is unable to perform. This type of situation results in loss of time, missed opportunities, and other financial and reputational consequences for all parties involved. Certainty of close and the ability to execute can apply to multiple facets of the lender-borrower relationship. They are also closely tied to experience and expertise.
Obviously, meaningful experience in underwriting and closing loans collateralized by SFR investment properties typically yields a more well-defined, smooth, and ultimately efficient process. Lenders seasoned in the space have fine-tuned systems and operations, which translates to an efficient borrower experience throughout the investment lifecycle. In addition, the lender’s familiarity in handling multiple situations and the inevitable hiccups that arise through the course of a closing means that – if or when a crisis occurs – the teams are prepared for it. They either know how to resolve it, or they know when to engage a third party to handle it quickly and ultimately avoid delays.
Execution and certainty of close also pertains to the lender’s ability to fund, meaning the lender’s financial backing. Since many lenders in the SFR investment space are private lenders and not consumer or commercials banks, their ability to fund a loan is dependent and may be limited by their balance sheet and capital sources. As in all relationships, talking about money can often feel uncomfortable. But inquiring into the details of financial strength can provide comfort that your lending partner is going to be around for the long haul and the relationship can progress beyond simply the first transaction and transform into a true, lasting partnership where your lender can provide sound counsel on future opportunities.
Real Cost/Total Cost
Finally, investors and borrowers should understand that there is a total cost to any transaction that extends beyond the simply quoted rate, as I mentioned earlier on. In fact, the “real cost” also extends further than the defined monetary calculations. Yes, hidden fees or expenses detailed in the fine print can absolutely add up and clearly contribute to the total cost of a deal. But the takeaway here is to ask for all the details on costs and fees, including timing, restrictions and penalties outright.
A good lender or a good loan officer does not want their client to be surprised at closing by the overall costs and the many stipulations of their loan. That approach usually leaves borrowers with a sour taste in their mouth because they are often past the point of no return and the sunk costs are too great to just walk away from the deal. Who wouldn’t take their future business elsewhere after an infuriating experience like that?
Make sure to consider the costs associated with process and timing, and how they can affect future costs such as extension fees on contracts or penalties for late repayments in the case of refinance situations. Also, think about the overall dynamic with the team you will be working with on the transaction. While delays in closing have a real monetary cost associated with them (that everyone wants to avoid), there is an emotional toll and cost that results from frustration with an inefficient process, or the lack of support from a lending team.
Avoiding the Catch
In summary, while price and costs are always key considerations in assessing a potential lender, borrowers can and should look beyond rate to consider the other elements of the relationship. Each transaction, each lender or partnership has its own dynamic. These multiple variances are why investors should recognize and scrutinize the “rate match” pitch and what simply “looks good on paper” initially. The total physical and emotional costs to close a loan extends beyond the monetary form of rate and fees. Lender experience, efficiency, certainty of close and other value-add relationships is where the best lenders differentiate themselves. By also taking these non-monetary factors into account, borrowers can avoid a potential relationship “trap” or “catch” and progress to repeat dates, er transactions, and a happy, healthy long-term partnership with their lender.
CoreVest is a leading provider of financing solutions to residential real estate investors. We provide attractive long-term debt products for stabilized rental portfolios as well as credit lines for new acquisitions.