Banks Boost Incentives to Lure Buyers With Office Deals Frozen

In a tough market for US commercial real estate, sellers are stepping up efforts to entice buyers before plummeting property values force them to accept deeper discounts.

(Bloomberg) — In a tough market for US commercial real estate, sellers are stepping up efforts to entice buyers before plummeting property values force them to accept deeper discounts. 

JPMorgan Chase & Co., Morgan Stanley and Capital One Financial Corp. are among companies offering to act as the bank for sales of their real estate loans, or actual buildings in some cases.

The incentives are designed to help deals get done at a time when soaring borrowing costs are freezing out buyers and fewer lenders are issuing new debt, especially for riskier properties like offices. Direct loans eliminate the need for buyers to find outside financing, and enable sellers to offload potentially troublesome assets more quickly while reducing their exposure to commercial real estate.

“The debt markets right now may be as bad as I’ve ever seen them,” said Kevin Shannon, co-head of US capital markets at Newmark Group Inc. “People are providing it because conventional financing doesn’t exist for the sector, and because they want to create liquidity. It allows you to produce more bids and a more competitive process in addition to improving the math.”

Seller-financing rates generally land around 5%, “and for offices, that could be about half of what market financing is,” Shannon said.

In the first half of the year, seller financing accounted for 1.9% of all commercial-property lending, up from just 0.5% in the same period of 2022, when mortgage rates were still low, according to a report by MSCI Real Assets that called the speed of change “concerning.”

That’s because if fewer lenders are willing to provide real estate loans, it means less liquidity across the sector, which will push up rates even more for borrowers. 

“Real estate is a levered business by definition, so if you have fewer sources of capital providing direct property loans, that means less credit available and higher costs of capital,” said Josh Zegen, co-founder of Madison Realty Capital.

More Urgency

For banks, often in the business of moving mortgages, the largely frozen commercial real estate market means they’re stuck with loans on their books for longer than expected. Repayments are also stalled and uncertain, with even the largest landlords defaulting on some debts. That’s creating more urgency for lenders to find an exit even for performing assets before property values drop further. 

Capital One financed some of Fortress Investment Group’s recent purchase of roughly $1 billion of its office loans, according to people with knowledge of the matter. JPMorgan has offered seller financing to find a buyer for the $350 million mortgage backed by Manhattan’s HSBC Tower, Bloomberg reported in July.

Some office buildings themselves are trading with seller incentives. The California State Teachers’ Retirement System agreed last month to sell Santa Monica’s Pen Factory building to a unit of JPMorgan in a transaction that included some financing, people said. The purchase price was discounted almost 8% to $166 million.

And Morgan Stanley’s Mesa West Capital is pitching financing in the 5% range to the buyer of the Aon Center in Los Angeles, according to people with knowledge of the plans.

A Capital One representative didn’t respond to a request for comment. Spokespeople for Morgan Stanley, Fortress, JPMorgan, and CalSTRS declined to comment. 

Many deals are marketed behind the scenes as sellers look to avoid a public process that might reveal the severely discounted value of their assets. Value downgrades could in turn spook the broader world of real estate investors, or draw unwanted attention from regulators.  

Lenders are “pushing seller financing because they can’t get their pricing,” said David Aviram, co-founder of Maverick Real Estate Partners, a New York-based firm that has acquired $800 million in loans since 2010.

Limiting Risk

While terms can vary, banks may fund transactions with a straight commercial loan, which isn’t collateralized by a property. The buyer then uses the loan to purchase the asset off the bank’s book. In that way, the bank is no longer exposed to the real estate, but instead to the buyer’s credit.

Banks need to ensure that the company they’re now lending to fits their underwriting standards, according to Gerard Cassidy, an analyst at RBC Capital Markets. 

“Obviously you’re not going to want to take excess risk in lending to those asset gatherers,” Cassidy said. 

Banks can also make certain loan terms more restrictive to ensure they can get some returns on the deal. These types of seller-financed loans are usually “very aggressive” and it’s a “low-risk” proposition for banks, said Will Sledge, a senior managing director at Jones Lang LaSalle Inc. 

However, there are potential risks to buyers, who’d often have to adjust their investment strategy to suit the lender’s terms, limiting flexibility, according to Maverick’s Aviram. 

“In most cases, we see it as too risky to take on seller financing because the typical two-year term of seller financing doesn’t match the potential duration of the investment,” Aviram said. “To experienced note buyers like us, we think it’s dangerous to take on that financing.”

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