If the commercial real estate loan you are seeking is much smaller than $5 million, bond financing is probably not the best way to finance your commercial property. If you need a fairly large loan, however, bond financing offers a number of advantages.
First of all, bond financing can have a custom repayment structure. In addition, floating rate deals can be written with no prepayment penalty. Finally, its cheap money.
Suppose a boat manufacturer needs to expand his plant. It will take about a year to build the new plant building and another year to hire new employees, train them, and really ramp up production. The owner of the business, however, hates debt, so maybe he wants to force himself pay the loan off as soon as possible after production gets up and running. A bond can easily be issued that has interest-only monthly payments for two years and then has a fast seven-year amortization thereafter. It might be possible to have high monthly payments in the peak income season and lower payments in the slower months. The point is that the loan, within reason, can be individually structured.
Another advantage of bond financing is that a floating rate bond can be written with no prepayment penalty. If the borrower wants to fix the rate, he can do so for a fee, but the loan will have a defeasance prepayment penalty, like a conduit loan. A fixed rate bond deal will have about the same rate as a conduit deal.
Floating rate bond financing compares very favorably with conduit financing, with deals being priced on the order of 75 basis points over 30-day LIBOR for the really strong deals to 200 basis points over LIBOR for the more average deals. 30-day LIBOR today (2/10/06) is around 4.4%, so we are talking about floating rates of around 5.15% to 6.4%.
Here is how bond financing for commercial real estate works. The borrower applies to a bond financing specialist. This bond financing company will usually have a tax attorney, a bond financing attorney and an investment banker all in-house.
The normal commercial loan package is compiled, and the package is submitted to one of about 100 banks in the country with a AAA or AA credit rating that are in the bond financing market. If the bank agrees to guarantee the deal, the attorneys go to work writing the bond. The bond, guaranteed by the strong bank, is then sold through an investment banker in the bond market as a AAA or AA bond. The bonds are typically sold off to yield the investors about the same yield as 30-day LIBOR, and the bank keeps the 75 to 200 bip spread as its fee for guaranteeing the bond. The bond financing company (think of them like a mortgage banker) will typically charge on the order of two points.
These bonds do not have to be tax-free. If the owner of a standard office building chooses to seek bond financing - perhaps to get a low rate and no prepayment penalty - he can easily do so.
If the proceeds of the bond are being used to create new jobs, however, the bonds can be sold as tax-free bonds. The boat manufacturer described above might easily qualify for tax-free bond financing because he will be hiring a number of new factory workers, and if he does, his interest rate will be significantly lower.
The final advantage of bond financing is that it can be used for all sorts of owner-user real estate, including manufacturing plants, that do not fit the usual cookie-cutter mold of a conduit. Suppose you need a loan on a refinery. There is no way that this loan would qualify for a conduit deal, but the borrower could obtain bond financing at very comparable rates.
Bond financing involves more paperwork than a conduit deal, so the process takes a little longer. Bond financing, however, is very profitable for the banks issuing the guarantees because they are earning a nice interest rate spread without ever loaning any money. They are just using their balance sheets (their net worths) to guarantee the deal. As a result, bond financing is surprisingly reliable.
Because bond financing on commercial real estate is such a specialized field, you cannot apply for bond financing through C-Loans.com. But if you have a deal that seems to fit, please send me, George Blackburne, an email (george@blackburne.com).
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