Can You Justify Paying Prepayment Penalties for CMBS Loans on Apartment Buildings?
Investing in apartment buildings can be a lucrative venture, but it's important to understand the nuances of the financing involved. Specifically, when you own an apartment building with a Commercial Mortgage-Backed Securities (CMBS) loan, the terms and conditions of the loan can significantly impact your financial decisions. This article aims to explore the complexities of assuming or paying off a CMBS loan through a prepayment penalty or defeasance, and whether it's ever worth it.
Has the CMBS Loan Been Clearly Assumable?
One of the first steps in determining whether paying a prepayment penalty or defeasance is worth it is to confirm whether the CMBS loan is assumable. Historically, many CMBS loans were assumable, allowing the new owner to take over the loan. However, in recent years, lenders have increasingly included non-assumable clauses in their mortgage agreements. These clauses can make it more challenging to assume the loan, thus requiring you to pay significant prepayment penalties or undergo defeasance.
Is It Worth the Cost?
The decision to pay a prepayment penalty or incur the cost of defeasance depends on several factors, including who bears the financial burden of these charges. Prepayment penalties can be substantial and could range from 2% to 7% of the loan balance, depending on the specifics of the loan agreement and the remaining term. On the other hand, defeasance involves a more complex process where you replace the existing debt with new securities that are free of prepayment penalties.
Typically, the burden of these charges would fall on the current owner, meaning that you would need to find a way to offset these costs. Renegotiating the terms of the prepayment penalty could be an option, but it might not always be feasible. Alternatively, securing a second mortgage could be a more cost-effective solution, even if it comes with a slightly higher interest rate. However, the overall cost savings would be more significant compared to the prepayment penalty or defeasance.
Is Making a Profit the Primary Goal?
The ultimate goal of investing in an apartment building is to generate a profit. Any prepayment fees will be charged against the income of the property, thereby reducing the net income. This is where it becomes important to carefully analyze the financial implications. Consulting with a tax accountant or a financial advisor can provide valuable insights into how these fees will affect your overall profitability.
One approach is to compare the total cost of defeasance or prepayment penalties with the potential savings from a new loan with a lower interest rate and larger loan amount. If the new loan terms are significantly more favorable, it might be worth incurring the prepayment penalty or defeasance fees. However, this decision should be made after a thorough financial analysis.
Seeking Expert Advice
Given the complexity of these decisions, it is often advisable to seek expert advice. With over 30 years of experience in financing apartment buildings, I have collaborated with many of the largest lenders and have a deep understanding of the intricacies involved. If you have specific questions or require a detailed discussion, I would be more than happy to spend a few minutes with you.
While it rarely makes sense to incur substantial prepayment penalties or defeasance fees, there may be exceptional cases where it does. The decision depends on the specific circumstances of the property, the loan terms, and the potential savings from a new loan. If you are in a position to pull out significant funds for investments, it might make more sense to consider these options.
Let's explore the feasibility of your specific scenario and see if we can find an optimal solution for your investment goals.
Contact Information:
If you have any questions or require a detailed discussion, please don't hesitate to contact me directly. I am semi-retired but still available to provide guidance and assistance.