This article continues our series on commercial real estate financing. Previous articles included discussions about commercial mortgage-backed securities and gap funding. We’ve also covered blanket mortgages and reverse 1031 exchanges. In this article, we’ll explore how a mini perm loan can help you finance your CRE project post-construction. We’ll explain how they are structured, including hard mini perm and soft mini perm loans. We’ll also consider whether mini perm financing is right for you. Finally, we’ll conclude with a few frequently asked questions about mini perm financing.
What is a Mini Perm Loan?
A mini perm (MP) loan is a short-term CRE loan. Typically, it has a term of up to 10 years. Normally, property owners use MP loans to pay off previous loans, usually construction loans. In this sense, an MP loan is a bridge loan, albeit with longer terms and lower rates. Normally, you apply for a mini perm loan once a building has acquired its Certificate of Occupancy (CO). The “perm” part of mini perm refers to more permanent financing, like a mortgage, that will follow. That is, the mortgage will replace the MP loan once the building stabilizes at about 90% to 95% occupancy.
Uses for Mini Perm Financing
Often, developers and investors can use a mini perm loan to buy time while they improve a property. That is, they may try to populate the building with better tenants and demonstrate solid income. In other words, the MP loan helps owners prepare for selling the property or holding it for long-term earnings.
Lenders offer MP financing for a variety of property types including office buildings, retail, apartment buildings, and industrial properties. Sometimes, investors use a mini perm loan for other situations, including:
- Acquiring CRE properties.
- Developing land.
- Leasing up underperforming property.
- Retiring non-performing and distressed debt with new cash for acquiring bargains and discounts.
A mini perm loan is different from a construction-to-perm loan, which is much more difficult to obtain. Specifically, construction is a risky business, and much could go wrong. Therefore, lenders charge higher interest rates for construction loans. Understandably, they are wary about committing to a construction-to-perm loan because they want evidence of project success. Usually, an MP loan offers interest rates intermediate between those for construction loans and mortgages.
How Do Lenders Structure Mini Perm Financing?
Typically, a mini perm loan will run three to five years. However, the term may go 7 to 10 years. The two basic subtypes of MP loan are hard and soft, which we discuss below. Sometimes, MP loans can be interest only. Normally, a mini perm loan will be a recourse loan, but some lenders offer non-recourse versions.
Usually, the lender will specify an interest rate and loan-to-value (LTV) requirement commensurate with the building quality. Lenders also factor in the property type and the creditworthiness and experience of the developer.
Mini Perm Loan Terms
Typically, MP loans require a balloon payment at the end of term. Therefore, the borrower needs the proceeds of a mortgage to cover the balloon payment. A lender might offer an MP loan with an interest-only variable rate for the first year or two. Then, it converts to a fixed-rate loan.
Of course, each lender will structure MP loans according to its own practices. For example, Assets America® offers mini perm financing for amounts beginning at $5 million, with virtually no upper limit. Typically, across the industry you will encounter the following terms:
- Term: 2 to 10 years
- Amortization: 20 to 30 years
- Collateral: First lien security interest
- Interest Only: Available
- Variable Rate: Available, but often for only one to two years
- Non-Recourse Financing: Available but reserved for best borrowers
- Combined with Construction Loan: Rare but available for an additional fee of 1% or more
- LTV: 90% to 95% of stabilized value
- Debt Service Coverage Ratio: 1.15:1 or higher
- Interest Rate: Recently, a fixed rate around 6%.
- Loan Fees: Up to 2% of loan amount
- Legal Fees: Paid by borrower
The structure of a mini perm depends on the borrower meeting the balloon payment obligation at term end. The lender takes the risk that the borrower will be able to make the balloon payment by securing a mortgage. Therefore, the lender must satisfy itself beforehand that the property will produce positive net profits. Underwriters are not certain how well the property will perform. That’s because the lender grants a mini perm loan early on, after the builder secures the CO. Many things can go wrong during the duration of a mini perm. For example, the building might not achieve the lender’s required stabilization threshold, usually 90% to 95%. Troublingly, the building might suffer from shoddy construction that only becomes apparent after the lender makes the MP loan. Worst case scenario: The developer was a crook, misappropriated the MP funds, skipped the country and now lives on a Caribbean beach.
Soft Mini Perms vs Hard Mini Perms: Key Differences
The key differences have mostly to do with timing.
Hard Money MPs
Usually, a hard mini perm loan matures in up to seven years. Typically, the hard loan will have a 20-to-25-year amortization period. The property owner will refinance the loan before it matures, lest the property go into default. Naturally, this requires a mortgage to repay the MP’s balloon payment. Of course, borrowers face the risk that interest rates will be higher at the time of the balloon.
Soft Money MPs
Soft mini perm financing can have a longer term but strongly incentivize early payoff. For example, you might take out a soft mini perm loan with a mid-term rate reset. Thus, you risk that interest rates will reset higher at mid-term and destroy profits. Nonetheless, a soft money MP loan is good for reducing the risk of default, due to the longer term. Additionally, it might be easier to secure some interest-only payments and a non-recourse loan. Clearly, with up to 10-years before imposing the balloon, soft money lenders count on a profitable, successful operation.
Is Mini Perm Financing Right for Me?
Mini perm financing can be an excellent choice for your real estate project. It allows you to pay off an expensive construction loan and receive a lower-interest loan. Importantly, with mini perm loans you have a type of bridge financing that provides time to achieve success. Considering the difficulty of securing a construction-to mortgage loan, mini perm financing is strategic for your property’s success.
Mini Perm Financing FAQs
What is a mini perm commercial loan?
It is a type of loan that covers the time-period from Certificate of Occupancy to building stabilization. Usually, that’s a 2 year to 10 year period. Afterward, the borrower refinances the property with a long-term mortgage.
How do mini perm loans work in PPP (Public-Private Partnership) contracts?
A PPP is a long-term contract between a government entity and a private party for providing a service or asset. The private party can arrange to receive mini perm loans from, or guaranteed by, the government partner. Clearly, this kind of structure helps advance important societal goals, such as affordable housing, infrastructure development or economic growth.
What is a floor loan?
Construction projects can use a floor loan to finance tenant-occupied buildings. It is the minimum installment a lender will advance a builder to construct a CRE property. The lender then nursemaids the loan by dribbling out additional portions as the builder progresses.