While StackSource primarily operates in the commercial real estate space, we have also frequently helped real estate source and structure financing for 1–4 unit residential portfolios, with the caveat that there need to be 5+ total residential units in the portfolio. Many investors see this type of financing as a “gray area” between residential mortgage loans, which would be used for a consumer home purchase, and commercial mortgage loans, which are used for commercial-use properties. It’s often frustrating to find the right lender with favorable terms for one of these portfolio loans… but it doesn’t have to be.

The five unit barrier

Actually, there are two distinct gray areas between consumer residential loans, and true commercial property financing.

The first is financing 1–4 residential units in one loan. This can technically be accomplished using either a residential or commercial mortgage. Our CEO Tim Milazzo wrote about that topic a few months ago:

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The second scenario, which we’ll cover in detail here, deals with portfolio loans that cover multiple 1–4 unit properties, such that the sum of all residential units in the portfolio is at least five. In this case, you’re squarely in commercial loan territory.

Any which way to five

It doesn’t matter how you get to those five units. This rule applies for a portfolio of five single family rental (SFR) properties (5 total units), three duplexes (6 total units), or even a fourplex and three SFR (7 total units). How about one SFR, one duplex and one triplex? Sure, 1+2+3 = 6 units and that portfolio loan will be considered “commercial”.

As long as the portfolio only contains residential properties and there are 5+ total units, the portfolio will qualify for “commercial” portfolio financing. If there is any commercial component (storage, retail, office, restaurant, etc.), the property itself automatically becomes commercial and will qualify for commercial financing regardless of the number of residential units. Got it? OK good, now onto what financing could look like for these residential portfolios.

Why does this all matter? Can’t an investor just get multiple residential loans?

Yes, residential loans are available, however, they are typically limited to one property per loan and the maximum number of residential loans a borrower can have is 10. Meaning, an investor can have no more than 10 residential loans secured by 10 individual properties within each loan. Anything above 10 properties/loans will force an investor to source alternative financing. Secondly, many investors hold title to a property through an entity (LLC, Corp., etc.) and conventional residential lenders are typically required to lend to individuals, not entities, so the only option is a non-conventional lender that can lend to entities.

Portfolio financing landscape

Portfolio financing can vary fairly drastically between lenders. Unless otherwise stated, these portfolio loans hold to the general structure of a commercial mortgage, rather than residential. For a simple overview of some key differences between commercial and residential loans, see this previous post:

Now for the specifics on portfolio financing deals.

Loan terms

Some commercial lenders offer 30 years fixed rates which are similar to traditional residential loans. The loan term is 30 years, the rate is fixed for the full 30 years and the loan amortizes over 30 years. Sounds fairly straight forward, right? (It is!) These loans are typically offered by private lenders that aren’t required to conform to traditional banking laws and regulations. Other more traditional lenders (like banks and credit unions) typically offer commercial loan structures where the standard loan terms are 5, 7, or 10 years, with amortizations varying from 15 to 30 years. Investors seeking a more “residential” loan structure with higher cash flow will be on the lookout for 30 year amortizations.

Interest Rates

Along with the loan term and amortization, rates are right there at the top in terms of importance and boy do they vary. Interest rates have been creeping up in 2021, though they are still near all time lows and investors are still able to lock in conventional 5, 7, and 10 year fixed rates in the high 3s to mid 4s, depending on lender type, asset location, loan size, leverage, property income, and borrower financial strength and credit.

Private lenders that typically offer 30 year fixed rates currently offer rates in the 4s and 5s, also depending on the factors listed above but sometimes more dependent on the borrower’s credit score.

Leverage

Leverage is also a hot topic and the amount of leverage has certainly see-sawed back and forth over the past 20+ months with COVID. For acquisitions, we’re seeing lenders lend up to 75–80% of the purchase price or appraised value, whichever is lower.

What about a refinance? For a “rate and term” refinance, lenders are also in the 75–80% range, and for cash out, it’s slightly lower at 65–75% LTV meaning a lender will provide some cash out, as long as they are not breaching a 65–75% LTV threshold based on a newly appraised value. Oh and don’t forget there’s a seasoning period where some lenders require borrowers to hold properties for 6–12+ months before they consider providing cash out, otherwise, they’ll simply refinance the existing debt and potentially cover fees and closing costs.

Fees

Financing 1–4 unit portfolios can include higher fees than traditional commercial properties as there are simply more properties to underwrite, appraise, and secure. It’s hard to put an exact amount or percentage on fees, as they do vary by lender and it’s in the investor’s best interest to shop around and not only compare rate, term, and amortization across lenders, but also fees and closing costs.

What else should an investor be aware of?

Earlier in 2021, lenders were flooded with new loan requests for purchases and refinances. Rates were low and investors wanted to pounce on good investments. Lenders could not fund every loan request they received so they focused on the higher quality properties. We saw many lenders instituting a minimum value per property, often in the $75–100k range. Sometimes this means the average property value within the portfolio needs to be above this minimum threshold, and other times it means every property value in the portfolio needs to be above this threshold and any property value below that value will be thrown out of the portfolio. Either way, lenders seem to be focused on higher valued properties which typically correlates to higher quality properties.

Why should an investor work with StackSource?

For starters, StackSource has a large platform with a diversified mix of lending institutions across the country that can provide commercial loans for 1–4 unit property portfolios. Many lenders shy away from this asset type as it takes significant time and resources to underwrite, process and close 1–4 unit portfolio loans so it can take significant time and an active network to source attractive loan options. Many commercial lenders do not specialize in small portfolio loans, but can be accessed through a relationship that feeds them an active pipeline of different lending opportunities, making it easier for a larger platform like StackSource to activate key capital relationships.

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