Three Months of Forbearance? Better Think Twice
By Chad Thomas Hagwood, Hunt Real Estate Capital
Thanks to the Federal Housing Finance Agency (FHFA), forbearance is now one of the biggest buzzwords in multifamily finance. When the FHFA announced at the end of March that Fannie Mae and Freddie Mac would offer mortgage forbearance to multifamily properties facing hardship as a result of COVID-19, many multifamily owners adopted a wait-and-see attitude.
That was the right decision. As April went on, the NMHC Rent Payment Tracker steadily trended higher. By May 13, full or partial rent for the month of May was 87.7 percent collected.
But with unemployment spiking to record levels, rent collections through the spring and into the summer will most certainly decline at many properties, causing owners to give those forbearance offers a second look. My advice: if there is anything owners can do to avoid forbearance, they should. While tempting, mortgage forbearance should be considered a last resort.
Forbearance could take a reputational toll
It’s generally implied that entering into a forbearance agreement will not impact a borrower’s ability to secure financing in the future. In an age that obsessively collects and retrieves data of all sorts, experience — and common sense — suggests that forbearance agreements will not be consigned to the back of a dusty file cabinet. In the case of Fannie Mae, for instance, loans will be automatically considered in default during the forbearance period, and lenders will therefore be assigning them to pre-watch or watch lists. These records will not disappear once the coronavirus does.
True, it is unlikely that participation in a forbearance agreement will have a decisive effect on future lending decisions, but it seems unreasonable to expect that it will not weigh, even slightly, against a borrower. Don’t believe me? Ask owners who had hardships with a property during the financial meltdown of 2008 and see if they still have to explain things when they apply for a multifamily loan today. Three month’s forbearance seems hardly worth the potential long-term reputational risk.
A short-term fix
No one disputes that in developing the forbearance program, the agencies had the best of intentions: to ensure that unemployed renters could count on having a roof over their heads and giving owners some temporary relief from their debt obligations. But for owners, forbearance is at best a short-term fix. Both Fannie Mae and Freddie Mac allow forbearance as much as 90 days, but it is now clear that it will take many more months for the economy to regain an even keel. The most recent prediction from the Congressional Budget Office (CB0), for instance, calls for unemployment to gradually trend downward over the next 20 months, reaching 9.5 percent by the end of 2021.
While borrowers can defer principal and interest payments without penalty for three months, it is just a temporary reprieve, not forgiveness. The owner is required to make up for missed payments within 12 months of their forbearance period ending. Given the finishing dates for the programs, this means that borrowers will find themselves making larger-than-normal mortgage payments in 2021 before the economy regains its footing.
Forbearance is also far from painless. Entering into a forbearance agreement with the agencies comes with strict terms and conditions, and they are typically nonnegotiable.
For instance, a lender may require a hardship letter, proof of a true liquidity need, monthly rent rolls, monthly rent collection reports, cash collection and deposit reports, monthly operating statements and any other information deemed “necessary.” This is all in addition to submitting to monthly cash flow sweeps of NOI. In addition, Fannie Mae borrowers are not allowed to draw cash out of the property while under a forbearance agreement.
Perhaps most galling for owners, they are giving up some of their property rights to operate their asset effectively. Agency forbearance restricts borrows from evicting any tenant for nonpayment during the forbearance period. This includes tenants whose income has not been touched by the pandemic. Residents are also immune from late fees, penalties or any other charges for nonpayment. In short, a forbearance agreement can impose costs and conditions that borrowers may not have considered when applying.
Exercise other options first
There is no doubt that economic conditions will force some multifamily owners to consider forbearance, as they should if their situation becomes critical. Given the risks and restrictions that come with it, however, they should consider tapping other resources first.
This could include applying to any of the Small Business Administration programs for small businesses, dipping into the ever-important rainy day fund, drawing down an existing line of credit or applying for a line secured by another form of collateral. If the CBO’s prediction that interest rates on the 10-year Treasury yield will hold below 1 percent during 2020 and 2021, debt remains an attractive option.
The bottom line: forbearance should be considered only if absolutely necessary. A few short years from now when lenders evaluate your performance during the COVID-19 crisis, you’ll gain a lot of respect and credit for avoiding forbearance. In my judgement, that is certainly worth more than a 90-day reprieve.
Chad Hagwood is a multifamily and manufactured housing community finance industry veteran with billions of closed transactions over the course of his career. He currently serves as senior managing director with Hunt Real Estate Capital, a division of ORIX Real Estate Capital, in Birmingham, Ala. For more information, please contact Chad at [email protected]