CRE Midwest

SBA loan rates, real estate prices and the decision to buy

For almost three years small businesses have experienced almost unprecedented financing opportunities through the Small Business Administration (SBA). The loan rates for SBA 504 loans reached a low water mark of 3.80% in December 2012, and stayed in the 3.80 to 4.10 percent range from September 2012 to May 2013.

By David Frank

President-SomerCor 504

For almost three years small businesses have experienced almost unprecedented financing opportunities through the Small Business Administration (SBA). The loan rates for SBA 504 loans reached a low water mark of 3.80% in December 2012, and stayed in the 3.80 to 4.10 percent range from September 2012 to May 2013.

Small businesses leveraged those opportunities and secured loans totaling billions in FY 2011 and FY 2012. Small businesses also benefitted from a two year refinancing program where they were allowed to refinance their loans.

Approximately 90 days ago, market characteristics began shifting, and rates began rising. Since May SBA rates have increased by 1.5%, the largest increase in recent memory. This interest rate climate has put many small businesses at a crossroads as they must make critical decisions about their near and long-term future. Do they take advantage of SBA 504 rates that, while facing some upward pressures, are still attractive by comparison? Or do they wait to see if rates ultimately will move lower?

It is anyone’s best guess as to how the Federal powers that be will view monetary policy moving forward. Will rates remain stabilized at the current 5.43 percent for a 20-year loan? Will they escalate over time, increasing by 150 to 200 basis points over the next 12 months? Will they experience a decline to the historic lows (3.80 percent) experienced just 9 months ago?

Clearly, decisions to expand a business’ products or service lines, purchase a new building or acquire new equipment are based on factors other than the state of interest rates at any given time.

One of those factors is the recovery of asking prices for commercial real estate and where those pricing levels are headed.

We are beginning to see greater velocity in the acquisition of industrial facilities in the 50,000 to 100,000-square-foot range. Today, prices in most market are experiencing upward pressure. Commercial real estate experts who represent owners in disposition initiatives expect that functional, well-located properties will only increase in price. Depending on market location and other dynamics, that rate of increase could be more accelerated.

The following chart looks at some of the potential rate scenarios and their implications on debt service and operating expenses for small businesses acquiring a commercial real estate property for $2.0 million.

 

August 2013

SBA 504 Rate

Add 100

Basis Points

Add 150

Basis Points

Subtract 50

Basis Points

Interest Rate

5.43

6.43

6.93

4.93

Annual Debt Service

$148,549

$160,924

$167,342

$142,596

Annual Difference

 X

$12,375

$18,793

($5,953)

20 year Difference

 X

$247,500

$375,860

($119,060)

In keeping with the thought that prices for commercial property are feeling upward pressure and increasing, let’s go a step further. Let’s assume that the cost to acquire the building in the previous scenario increases by 10 percent, from $2.0 million to $2.2 million.

 

August 2013

SBA 504 Rate

Add 100

Basis Points

Add 150

Basis Points

Subtract 50

Basis Points

Interest Rate

5.43

6.43

6.93

4.93

Annual Difference

x

$13,609

$20,667

($6,546)

20 year Difference

x

$272,180

$413,340

($130,920)

If interest rates and commercial real estate prices continue to increase, the conclusion to be drawn is that in spite of recent increases in interest rates for SBA 504 loans, the SBA 504 program today still offers small businesses great opportunities. A building purchased for $2.0 million today at 5.43 percent could save $35,520 annually for the same building that with current trends could be worth $2.2 million and need to be financed at a rate of approximately 7.0 percent.

No one can predict with great precision what interest rates or real estate prices will do and where they will be in six months, 12 months or even longer. It is important then that small businesses, whether they are in a position to expand today or are looking at future opportunities have a full understanding of the various scenarios they could encounter.