Lending: Rising rates push borrowers toward debt assumptions

More commercial real estate borrowers are taking a different tack in trying to manage rising interest rates, looking at the potential for assuming seasoned, in-place debt as an alternative to obtaining new financing when making acquisitions.

The shift comes as interest rates have been rising steeply and over the past three to four months, says Matt Frazier, founder and chief executive of Jones Street Investment Partners. On January 2, the benchmark 10-year Treasury was trading at 1.76 percent. As of November 14, the 10-year Treasury was at 3.8 percent, with further additional tightening expected.

“Any deal that was done over the past two or three years has a rate that was probably, at a maximum, going to be in the mid-4 percent range and some will be lower, in the twos or threes. When you compare that to what you could get today on a new deal with Fannie Mae or Freddie Mac, you’re seeing pricing in the mid- to high 5 percent range,” Frazier says.

The Boston-based multifamily specialist, which in its eight-year history had only assumed two loans, is increasingly thinking about situations in which it can assume debt.

“We knew that in a rising rate environment, that debt would become an asset to the deal”

Matthew Frazier
Jones Street Investment Partners

“Previously, we did almost no loan assumptions. If we had the opportunity to put fresh debt on something, we would do that because rates were very attractive. In our history, we have only assumed debt on two properties, but we did our third last week,” Frazier says.

“Effectively, you become the new borrower on the debt that was already activate on the asset. That is attractive for obvious reasons right now – pricing is the biggest risk and the biggest uncertainty in the capital markets today.”

Lending assumptions

Assuming debt is not a cut-and-dry situation and, apart from agency or other government-backed loans, are largely not assumable, says Jay Neveloff, a partner at New York-based law firm Kramer Levin.

Commercial mortgage-backed securities loans are not assumable – it is possible to assume Fannie Mae and Freddie Mac debt, albeit for a fee of 1 percent of the loan amount paid by the buyer of the property.

“I am often asked that question by my clients, but it is a very small segment of the market,” Neveloff adds. “Sometimes a bank lender might also be able to keep a loan on its books because they like the coverage ratios, but these tend to be smaller loans from smaller regional savings banks.”

Louis Rogers, founder and co-chief executive officer of Capital Square, a Glen Allen, Virginia-based manager, notes there is another factor to consider as well: only the strongest borrows are approved for loan assumptions. His firm has done multiple assumptions over the years, including the first assumption of a Fannie Mae loan by a Delaware Statuary Trust.

“Loan assumptions are an excellent way to go. But they don’t work in all cases and not every property you want to buy has the right parameters, including enough term. When you originate a loan, you can underwrite it to meet your needs,” he says.

In the situations where it is possible to assume a loan, low-cost fixed-rate debt becomes a boon for the buyer and the seller, says Frazier who notes his firm is very much in the market, despite the current volatility. While it might not close anything before year-end, Frazier anticipates that the firm will stay an active buyer in 2023.

“In the eight years since we started the company, we always thought that if interest rates moved higher, we would want to have fixed interest rate debt in place on any asset in the portfolio because we knew that in a rising rate environment, that debt would become an asset to the deal and that being able to transfer that debt over to a buyer was going to help the valuation and liquidity on the deal.”