Advice for the aspiring hotel owner
This article is the first in a series designed to guide those newer to the industry – or those less familiar with best practices – through the process of identifying the best sources for financing.
For the novice investor, breaking into hospitality can seem a daunting task. It can feel overwhelming to start at ground zero, but there’s one crucial aspect to the process that should be the foundation of any attempt to enter the industry: financing the investment. While in no way comprehensive, the following covers several factors to consider when pursuing financing. And we’ll also discuss one key area that can help the savvy investor recoup a significant portion of the initial investment.
SBA 504 loans are an important segment of hotel financing but, as with all things in life, do your homework before wading into something with which you’re unfamiliar. While this loan program can be complex, by first learning the ins and outs of SBA loans, these can be the bedrock of a financing package. And like any aspect of finance, there are several common points at which SBA loans can fall off the tracks, but they provide financing options to the small-business owner that would otherwise be inaccessible.
For example, SBA loans hold the appeal of requiring a smaller down payment than a conventional loan – for a hotel, typically 15% to 20% down. Conversely, they can add complexity to the process, thus introducing more opportunities for a loan to go off track, but any loan can be derailed by poor planning beforehand, so preparation is key.
To give a bit of background, an SBA 504 loan actually has two separate pieces – one with a bank and the other with a certified development company (CDC). These CDCs are non-profit corporations certified and regulated by the SBA to package, process, close, and service 504 loans. That means the borrower makes payments to the CDC and the bank every month.
As to length of term, the CDC portion of the loan will remain the same for the life of the loan, while the bank portion of the loan will probably stay fixed for 10 years and then need to be refinanced. After 10 years, the investor may want to do a property-improvement plan anyway, and likely will be looking for additional funds. Once enough equity has built up, refinancing out of an SBA loan into a conventional loan can be ideal.
Conventional loans typically are less expensive and can have a much simpler and more flexible approval process than SBA loans. Here, we’ll discuss two types of conventional lenders: regional lenders and insurance company lenders.
1 Regional lenders, or community banks, often are willing to invest more heavily in their own backyard, and they may require a higher down payment than an SBA loan. However, they can be willing to accept less equity than an insurance company lender. Banks have shorter term money – usually three, five, or seven years – so the investor should expect to refinance the loan relatively soon.
Community banks also tend to be relationship focused. If an investor, or group of investors, is able to deposit significant funds into a bank, then that community or regional lender often will bend over backward to accommodate the client. Without that depository relationship, the barriers to loan approval will be higher. However, that higher barrier can sometimes act as a filter to sift out less viable loans.
2 Next, the insurance company lender can be a tremendous resource for the hotel investor. For lower leveraged requests – typically 50% loan-to-value or below – insurance companies provide exceptional loan options. They also can provide longer term loans than a bank. If a business plan calls for holding a property long term and allowing equity to build, insurance company loans can be a great choice.
Since cash flow is most tenuous the first few years of ownership, cost segregation is a tool that every savvy investor should use.
To access these insurance company funds, the borrower needs the services of a mortgage broker. For that matter, a good mortgage broker can be an asset to the investor’s business plan from the beginning. With so many moving pieces regarding a hotel’s acquisition and management, a good broker will simplify the process by identifying a quality loan that advances the business plan.
But, interest rates are just one element of a loan. The terms and conditions after closing may dramatically affect the business plan. A quality mortgage broker will help navigate these waters and simplify this critical element.
A cost-segregation study can be an important tool to supplement a sound financial strategy. By accelerating depreciation, owners can often recoup the better part of their initial investment by dramatically increasing deductions on their tax returns. Since cash flow is most tenuous the first few years of ownership, cost segregation is a tool that every savvy investor should use.
Having simply scratched the surface on this topic, there is a great deal more to say. However, the purpose here is to provide the new or aspiring hotel owner some guidance. Remember, market conditions always will affect the loan, as will flag, location, and operator experience. For SBA loans in particular, industry experience is a requirement. Bringing in an experienced partner may be key to helping secure approval, particularly for that first hotel.
[email protected] or (925) 478-2271.is a commercial mortgage banker with Slatt Capital, providing customized debt solutions across the country. She’s California native who spent years living outside the state, including in such diverse places as Incheon, South Korea, and Moriarty, New Mexico. She can be reached at