Practical Economics


Small Businesses To Face Mortgage Squeeze

Gillian B. White

Having hung on through the Great Recession, many small-business owners face a new threat in the coming year: the difficulty of renewing loans now coming due.



Ironically, an improved real estate market and banks in better shape than a few years ago may spell trouble for many small-business owners. With real estate prices climbing and the number of distressed commercial loans on the decline, lenders are less likely these days to cut some slack to small-business borrowers who are still struggling. As a result, tens of thousands of small firms may be left with distressed properties and facing foreclosure when their commercial real estate loans come due over the next several years.

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A total of about $276 billion in nonresidential real estate loans will mature in 2013, more than in any year since Trepp LLC, a commercial real estate analytics group, began keeping records in 1980. Additional large crops of these loans will continue to mature over the next several years, with a total of about $1.3 trillion in commercial mortgage loans coming due by 2017. When loans mature — typically five to 10 years after loan origination — lenders can choose to either renew the loan or ask borrowers to pay the remaining balance. Odds are many small-business owners with loans coming due this year won’t be given the choice of renewing, but will be asked to pay up.

Chalk that up, in large part, to the convergence of two trends. First, lenders are, on the whole, in much better shape today to risk taking a financial hit from foreclosures than they were a few years ago. In general, they have worked out financing with their largest commercial real estate clients and are better capitalized. And second, with property values on the rise and the economy picking up, finding new buyers for foreclosed properties will be much easier for lenders than it has been. As a result, lenders aren’t likely to exhibit the same kind of flexibility they did for loans that came due during the height of the Great Recession. Then, they preferred to extend the duration of as many loans as possible and hope for better times ahead than to lock in massive losses. This time, if their business borrowers aren’t able to come up with the scratch to pay off their balances, many will get the boot.

It is likely to be tough for thousands of small businesses to pay off maturing loans. Though they may have a steady income stream and the ability to continue to make timely payments, sluggish economic growth means they’re not seeing much profit and haven’t been able to accumulate the cash needed to pay off their loans all at once. Most vulnerable are businesses, especially mom-and-pop shops, in the Midwest and some parts of the South, where property values are recovering particularly slowly.

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And those whose loans were packaged up and sold as commercial mortgage-backed securities (CMBS) are likely to have the worst time. Thousands of such securitized loans will come due in each of the next several years, hitting $137 billion in 2017. Meanwhile, the share of delinquencies in the CMBS sector is down, dropping to just 7.44% in April, the lowest in five years, and demand for new commercial mortgage-backed securities is on the rise. New CMBS issuance is poised to shoot up, more than doubling last year’s total of $44 billion. Thus, there’s little incentive for lenders to make exceptions for borrowers who are struggling. They’ll easily make up for losses on loans they call with increased new loan originations. “Lenders have gained the upper hand,” says Phil Jemmett, chief executive of Breakwater Equity Partners, a commercial real estate consulting firm in San Diego.

There will be few places for these borrowers to turn. For many operations, the cost of relocating their business would likely prove fatal. Refinancing with another lender is often difficult and, where property values remain subdued, may not provide enough equity to solve the problem. The one bright spot: Some Midwestern and Southern borrowers may indirectly benefit from booming coastal lending markets. The cutthroat competition on both the East and West coasts could put some lenders on the hunt for easier markets.



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