Understanding the key components of bank financing for hotels
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Conventional bank financing remains the most common source of funds for the majority of commercial real estate transactions in this country. To improve one’s chances of getting bank approval for a loan, the aspiring hotel investor should understand some basics of how banks operate.
When looking for a loan, the first impulse may be to approach a large bank. Those well-known institutions may be the first resource that comes to mind when the new investor thinks of securing financing. However, large financial institutions have, generally speaking, a very low risk tolerance. Those lenders often focus exclusively on making loans of the highest quality – i.e., those with the lowest possibility of default. A new investor with an unproven track record may have difficulty securing financing from such a source. For that matter, large institutions often have policies of not issuing hospitality loans. And that’s during the best of times. On the heels of a global pandemic, the risk factor is even higher.
READ THE ROOM
While not impossible to secure funds from a large bank, there will be a higher chance of success in getting financing from a smaller, regional bank – like a community bank or credit union, for example. These types of institutions typically have both a higher risk tolerance and a focus on the community. Sometimes, they even have a community-driven purpose, which may make them more amenable to a hospitality loan if it can be shown that it aligns with the overall focus of the bank.
A community bank may be more eager to work with an investor who has strong local ties to the community, such as a good reputation and involvement in community affairs. While community involvement won’t make up for a bad business plan, it can positively affect the banking relationship. If an investor has strong local ties to a community and is able to bring significant deposits to a regional bank, that lender will likely do everything in its power to strengthen and maintain a good relationship with the borrower.
The best way to cultivate a relationship with a bank is to bring deposits. That’s the number one most important thing every bank is looking for. More deposits mean a bank has a stronger balance sheet, meaning it can lend out more money. All banks are highly regulated by the government and have strict standards to which they must adhere to stay in business. Additional deposits always put a bank on a more secure standing. It also allows the bank to make more loans – and, after all, the bank is in the lending business.
MONEY TALKS
Now, a word about pricing. Some investors focus exclusively on the interest rate of a loan and, in so doing, don’t consider other elements that may dramatically affect their business plan. Is the loan adjustable or fixed, and for how long? What happens to the loan after it closes? Will it be sold to another party, or will it remain on balance sheet with the original lender? What are the postclosing covenants? Who will be servicing the loan after closing? There are myriad ways a loan can be structured, and a better structure may be worth a slightly higher price.
It’s also vital to understand that pricing is determined by multiple factors, including liquidity, net worth, and experience of the borrower. A banker will need to dig into the specifics of a particular loan request, before giving an actionable loan quote. Don’t expect a hard, fast number in the first conversation with your banker.
There are still limits to what a bank can do, even for its best client. Over the last few years, the cost of capital has been extraordinarily low, and lenders have given out a significant amount of debt under very unique conditions. With inflation running hot, the market increasingly volatile, and the Federal Reserve raising interest rates, some lenders are now looking at their book of business and realizing perhaps they overextended themselves. The internal focus for many lenders has shifted toward ensuring their loans meet internal stress testing, so they can satisfy federal regulators that their overall loan portfolio remains strong.
The implications of this shift in focus mean that sometimes a bank will deny a loan request, based on internal factors for the bank and perhaps having nothing to do with the business plan of the borrower. This is the sort of thing that a quality mortgage broker can help navigate. A great deal of frustration can be generated when a borrower has a strong business plan but still gets their loan denied. Borrowers ought to understand that there may be factors at work other than the strength of their business plans.
Anna Swartz-Lopez 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 [email protected] or (925) 478-2271.
