We’ve all heard it: survive until 2025. There is certainly truth to that phrase, as the overall commercial real estate landscape looks to be stabilizing as we get ready to turn the calendar from 2024. But increasingly, signs are showing that many of the headwinds experienced during the past year may be, simply put, our new normal.
For most of us in the CRE finance sector, the last 12 months have been tumultuous. Deal volume was down, and the deals that did happen took more work to get across the finish line. Financing was difficult to secure – and expensive – so many deals simply didn’t pencil out. But here we are, on the brink of 2025. And we DID survive. So, let’s take a look back at some key issues of 2024 and how we can turn those into insights to build on for the new year.
Mark Perkowski, vice president of commercial finance group at Draper & Kramer
A Look Back: The Good, the Bad, and What We Can Learn From It
Money was hard to come by this year. The banks that were in the market imposed much stricter lending standards, including deposit requirements as high as 10% of the loan balance, and loan proceeds from all lenders, including the agencies, life companies, and CMBS market, were debt service constrained by the high benchmark treasury rates. Given these hurdles, the most well-capitalized investors, such as REITs, pension funds, and family offices, did not find the cost of capital in 2024 to be accretive to their deals. Many chose to forgo financing altogether and hold properties all cash (which, if you’re a mortgage banker like me, wasn’t good news).
However, there were some successes in 2024. From those, we can see a more positive path forward into 2025 and beyond. Good quality borrowers and those with strong borrowing relationships have maintained their access to capital. They were able to extend their maturing loans beyond 2024 and close on new construction debt, albeit at lower leverage than they would like. High quality borrowers with a proven repayment history and a willingness to be flexible by, for example, providing a personal guarantee or accepting a 5+ year prepayment penalty, were able to secure financing that was otherwise unavailable.
For example, one of my clients, a hotel investor, has been a repeat borrower from a life insurance company and maintained a flawless payment history – even throughout the pandemic. Because of this, I was able to help him secure an acquisition loan exceeding 70% loan-to-purchase-price, which is a deal that’s almost unheard of in the current climate. This access to this capital positioned the investor to close on a generational opportunity.
The past year also highlighted that accepting a long-term rate can be another path for borrowers to unlock capital. Case in point: another client of mine wanted a to cash-out on a shopping center with near-term lease roll on the grocery store. The ideal solution for the client would have been something shorter term, like a five-year mortgage. But, understanding the demand among lenders for longer-term debt, I was able to cash-out proceeds up to a 1.15x debt service coverage ratio (DSCR) with a 25-year fixed rate self-amortizing loan from a life insurance company. Because my client filled the insurance company’s need for long-term debt, it in turn was willing to lend proceeds that no five-year loan could provide.
And, of course, it never hurts to offer recourse. For example, earlier this year I had a high-net-worth client seeking to refinance a retail property in Brownsville, Texas, in which he’d recently invested capital expenditure funds into renovations. All the local banks in the market were only offering Prime-based loans at eight percent or higher. I was able to secure a five-year loan below six percent through one of our life companies. The sponsor’s willingness to guarantee the loan provided the lender the added protection it needed to lend into a tertiary market it would otherwise seek to avoid.
In short, maintaining a strong payment history, being flexible on terms and putting more of your own “skin in the game” will be three crucial factors in getting deals across the finish line for the foreseeable future.
Looking Ahead
I believe there is an opportunity to not just survive but thrive in 2025. Yes, both borrowers and lenders are adjusting to a new normal, but good borrowers and attractive properties will continue to be able to access quality debt. There is an openness to creative solutions and compromise when borrowers loosen their expectations. And, while lenders are going to maintain historically tight DSCR thresholds because of Federal Reserve’s tighter monetary policy, those of us working to broker deals will need to continue to help both sides to “meet in the middle.”
Mark Perkowski is Vice President of the Commercial Finance Group in the Chicago office of Draper and Kramer, Incorporated.