Financing Seniors Housing.

While Multifamily Developers are Implementing New Ideas in Seniors Housing, Finance New Ways to Meet Their Needs.

The seniors and assisted living housing market is undergoing incredible change and that change will accelerate in the years ahead as more of the nation's baby boomers retire, elect to down-size their homes or require housing that combines services for elderly residents.

The existing flow of retirees and the impending wave of people aged 60 and over has driven the implementation of new ideas in housing by developers and owners. Private and institutional investors are facilitating change in this sector by expanding the range of projects that they will invest in and by finding new ways to lower costs to increase resident affordability. Existing owners and new entrants have an excellent opportunity to secure attractive and flexible financing as lenders and other investors compete for quality projects. Success will be based primarily on knowing what elderly residents are looking for and secondarily on knowing what can be financed.

KNOW YOUR MARKET

When seeking financing, either for refinance, rehabilitation, or for acquisition, owners should keep in mind that not all investors are doing business in all sectors of the seniors market. In general, investors draw a bright line between projects that function primarily as real estate investments and those that function primarily as specialized service businesses.

Generally, projects that have skilled nursing facilities whose revenue contributes more than 25 percent of the project's total revenue are considered business financing by lenders, not real estate financing. Because a significant proportion of the revenue is non-real estate (rent) related, pricing the viability of the project with standard real estate analytics and models doesn't always work. That can be a good thing for owners of these facilities. Because reliable property and loan performance data is unavailable, most lenders require yield premiums for these facilities. Time and experience will indicate whether or not these yield premiums were necessary.

Many independent and congregate care facilities derive most of their revenue from rent, or less than 25 percent of their revenue from additional services. That's the market that is attracting the widest group of new investors, including Freddie Mac.

NOT ALL PROJECTS ARE CREATED EQUAL

Most investors look favorably at pure rental facilities, particularly when the financing sought is within general guidelines. For example, Freddie Mac and most other mortgage investors are actively seeking to finance senior housing facilities where debt service coverage ratios are greater than 1.35, and the loan-to-value is less than 75 percent. Borrowers whose projects have other ratios can obtain financing, but interest rates start to climb from this base.

Some owners may think that newly constructed properties that offer a range of state-of-the-art amenities will drive a lender's or investor's decision to finance a project. While these things are a factor, all lenders and investors don't give amenities the same weight when evaluating projects for financing. But one thing is consistent among successful borrowers: quality and experience of management. The ability to maintain a facility and retain and attract residents over time is extremely important. An owner-operator with a short track record of managing seniors housing facilities can be pushed out of the low-cost financing market and into a higher cost market.

Financing comes in a variety of forms. Mortgages being offered range from 25-year fully amortizing to 10-year interest-only loans with balloon payments due after t0 years. Floating rate financing also is readily available, especially during construction and stabilization periods. Government-insured financing at the federal and local levels is also available.

Recently, Freddie Mac added its name to the list of investors who help lower the cost of senior and assisted living rents by providing third-party credit enhancement. The use of tax-exempt bonds is a common financing tool in the general apartment market that increasingly is being brought to the seniors sector. The reason: A growing perception on the part of cities and states that facilitating affordable seniors and assisted living facilities through the issuance of taxable and non-taxable municipal bonds makes sense. This financing technique keeps rental costs down by increasing the credit rating of bonds issued to fund either the development, purchase, or rehabilitation of rental housing stock for seniors. A call to the National Council of State Housing Agencies can tell borrowers if their municipality is involved.

LOCATION, LOCATION, LOCATION 

While the tendency is for the American public to think that seniors and assisted living facilities are just in the sunbelt, investors and lenders know that nothing could be further from the truth. Of the 24 deals that Freddie Mac has financed, seven have been in the Midwest and 10 more have been in the Northeast. Seniors oftentimes want to remain close to their families, so they select facilities that are not too far from their children and previous residence.

Based on the surge in financing over the past few years, new construction doesn't seem to have had a meaningful impact on the average valuation of properties nationally. The Sunbelt and other warm climates are still the main new construction market, but according to the American Seniors Housing Association (ASHA) construction report for 1998, three of the top 10 states are in the Northeast-New Jersey, Connecticut, and Pennsylvania. Some markets are seeing a larger increase in construction than others, and here the Sunbelt states are the leaders. According to ASHA's construction report, the top three states--Texas, Florida and California--had more than 13,000 units being built in 1998, compared to just under 15,000 units in the next seven states.

SHOPPING FOR A LENDER

There clearly are tiers in the seniors and assisted living mortgage market, just as there are in the general multifamily market. As the profit potential of this sector increases, so do the number of competitors, each with unique risk-return guidelines. Since Freddie Mac entered the market in late 1997, we've seen competition increase. The increase in the number of lenders willing to do business is good for borrowers. Interest in financing seniors and assisted living facilities is coming from real estate investment trusts (REITs), banks, insurance companies, and Wall Street conduits that are packaging seniors mortgages with other types of mortgage assets in commercial mortgage-backed securities.

It's clearly good business for lenders and investors to shop for quality projects; it's also clearly good business for borrowers to shop for quality lenders and investors. The second half of 1998 demonstrated how important it is for borrowers to do business with lenders and investors who have a track record and staying power. Many investors pulled out of the market in the latter half of 1998 as the cost of and access to capital became volatile. Freddie Mac chose to remain in the market during this period and in fact funded $2.7 billion in multifamily loans, $61 million of which were seniors transactions.

This pull-back by some investors and lenders left many borrowers without the financing they needed when they needed it. No one can predict the volatility of the capital markets so it clearly pays for borrowers to do their own due diligence.

Kiffe is vice president of multifamily loan production for Freddie Mac, Washington D. C.