While most storage investors buy existing properties, there is another breed that additionally builds storage properties from scratch. This type of approach requires a specialty type of financing and then transferring this debt to permanent status. So how do you bridge the gap between construction and final financing?
Construction financing has certain attributes, namely:
- 3 year loan term
- Roughly 5 ½% interest rate currently
- Personal recourse
- Completion guarantee evidenced with permit
- Interest only (reserved and then payable at end) in most cases
- Need experience (5+ years of self-storage experience plus one member on team who’s developed before)
- You need 150% of loan amount in net worth and 20% in liquidity
- A loan broker can help you obtain this type of debt
This type of debt is specifically for new construction. And when the property is built it’s time to refinance.
Once a storage property is built, it must now pay off the construction loan and move over into normal “permanent” financing. Here’s what you’re looking at right now:
- 5 to 10 year terms
- Roughly 75% LTV (which means 25% down payment required)
- Around 4 ½% interest rate
- Recourse unless it’s CMBS “conduit” debt which is non-recourse
- You need 100% net worth of loan and 10% in liquidity
The big danger
When building a storage facility, the big issue is if you can safely convert your construction loan to permanent financing. If you fail, you could theoretically lose the property to foreclosure. So make sure that you fully understand the requirements (occupancy, etc.) for obtaining a permanent loan and have a plan to hit them by the time your construction loan ends. You should also have a Plan B in the event that you hit a period in which banking instability has temporarily halted the ability to get a permanent loan.
When you build a storage facility, you have to get two completely different loans and then link them together. This primer will help you understand the concept and better protect your downside.