Interest rates are still hovering around record lows, but the loan products that exist don’t always meet the needs of small, multifamily borrowers. In response, Fannie Mae has just rolled out a new product for its small-loan product line: the newly-enhanced Hybrid Adjustable-Rate Mortgage.
Fannie Mae calls its Hybrid ARMs a “powerful financing tool” designed to provide flexible, long-term financing and attractive prepayment options aimed at small-loan multifamily borrowers.
Here’s what you need to know:
- Term: The Hybrid ARM is structured as a traditional, fully-amortizing fixed-rate loan for a period of five, seven or ten years. At the end of that period, the loan automatically converts to an adjustable rate for the remainder of the 30-year term.
- Maximum LTV: Up to 80% loan-to-value (LTV).
- Minimum DSCR: 1.25x actual amortizing debt service coverage ratio (DSCR). Fannie Mae has indicated that other DSCR constraints may be required depending on market location, but has not elaborated beyond that.
- Interest Rate: The adjustable rate is tied to the spread over the six-month LIBOR, which adjusts based on changes to the underlying index and is equal to the LIBOR plus the margin.
- Margin: The margin is 80 bps during the adjustable rate period, plus the Guaranty Fee and Servicing Fee in effect at rate lock. By way of comparison, Freddie Mac’s Small Balance Apartment Loan Program is a similarly structured product but with margins ranging from 275 bps to 325 bps above the 6-month LIBOR.
- Rate Caps: Periodic and lifetime caps have been built in to ensure that the rate doesn’t fluctuate too wildly when rates change. The maximum semi-annual interest rate adjustment is 1% up or down; the maximum lifetime interest rate increase is capped at 5% above the initial fixed rate.
- Lifetime Interest Rate Floor: The interest rate will never be less than the margin.
- Prepayment Availability: There are no prepayment penalties during the adjustable-rate period. Flexible prepayment options, including yield maintenance and declining prepayment premium, are available during the fixed-rate term.
- Eligibility: Hybrid ARMs can be utilized for multifamily properties with 5 to 50 units and for loans of up to $3M to $5M, depending on the market and number of units.
- Personal Guarantee: These are non-recourse loans with standard carve-outs for “bad acts” such as fraud and bankruptcy.
“We are very excited to offer our newly enhanced Hybrid ARM to borrowers,” says Mike Winters, Fannie Mae’s Vice President for Multifamily Customer Engagement. The product is intended to “provide more liquidity to this market” and serves as a “great example of the collaboration that drives [Fannie Mae’s] strong partnership with lenders.”
The Rise of Hybrid ARMs
Hybrid ARMs aren’t new. They made their debut in the 1990s as a way for borrowers to take advantage of lower interest rates during the first few years of the loan. When interest rates plummeted, more borrowers opted for the security of 30-year, fixed rate loans.
Now, despite interest rates still being so low, hybrid ARMs are making a comeback.
“Sometimes the hybrid adjustable rate mortgage, given the market condition at the time, could be an attractive option for borrowers,” Hunt Mortgage Group Managing Director Owen Breheny told Bisnow. In some markets, cap rates have compressed so significantly that even a marginally lower interest rate can make the numbers on a deal pencil out where they otherwise wouldn’t. The hybrid ARM is one way to tap into lower interest rates.
Freddie Mac also has a Hybrid ARM product though, unlike Fannie Mae’s new offering, it’s limited to specific asset classes. Fannie Mae’s product, for instance, can be used to finance manufactured housing communities in addition to small, conventional multifamily apartment projects. It can also be used for either property acquisitions or refinancing.
Is the Hybrid ARM right for you?
“It really depends on the borrower,” Breheny said. “If they believe that LIBOR will remain low and rates will remain stable, it could be an opportunity to take an ARM.”
Fannie Mae’s hybrid ARM is particularly appealing because of the interest rate caps it has put in place. Historically, interest rate swings on ARMs have been unpredictable. Borrowers often found themselves paying significantly higher rates than they anticipated. Fannie Mae’s new product provides more certainty by instituting those caps.
And as a result, Fannie Mae’s hybrid ARM product could indeed be an appealing way of raising affordable capital.
ARMs come in a variety of shapes and sizes. It’s always best to meet with an experienced lender (or several lenders!) to discuss which product is best suited for your specific needs. To learn more, contact one of Fannie Mae’s Delegated Underwriting and Servicing (DUS) lenders: www.fanniemae.com/multifamily/dus-lenders or visit: www.fanniemae.com/multifamily