Why in the world would someone ever consider a hard-money loan for refinancing a self-storage facility?

Well, for a few, it may not be as far-fetched as it sounds.

Many Could Face This

Let’s say you did a value-add project in 2017 or 2018.

I am going to totally make these numbers up on this fake deal, but it is based on some I have done at the time.

Let’s say you purchased 25,000 square feet on a 5-acre site for $2,200,000, generating a combined income of $250,700 (approximately 88% economic occupancy) for storage and $31,500 for parking.

As we often do, this example deal was purchased in a market where one could replace the parking income with 25,000 net rentable square feet of climate-controlled space. The market rent at the time was about $13.25 for climate-controlled space with an average unit size of approximately 100.

In other words, the $31,500 yearly income could be replaced with $297,000 of income at 88% economic occupancy.

So here is what that deal looked like after the value-add play:

GPI	$588,200
Ecc. Occ.	88%
Net Income	$517,616

 

Operating Exp. (40%)	$207,046
NOI	$310,570

 

I know your numbers may be different, like economic occupancy and operating expenses. I am just using our numbers we were using in 2017 here to show our underwriting. You may say 40% operating expenses are high, but in 2017 or 2018, with our employee cost, health insurance, and 401 (k), this is about what they were.

So, in 2017 or 2018, the bank would have looked at this deal and said we will use a 4% interest rate for five years, and we will value at a 5.5% CAP rate.

If this deal was in a major market, tier one city, it could have been as low as a 5% or 5.25% CAP rate.

So, they would value the deal at $5,646,720 (310,570 divided by .055) upon completion and lease up.

However, the cost would have been something like this:

Acquisition	$2,200,000
Expansion	$1,560,000
Total Cost	$3,760,000

 

The rest of the deal below the NOI line would look like this:

 

NOI	$310,570
Debt Service	$178,620	75% LTV
Net Cash Flow	$142,302
ROI	15.01%

Now, that’s a deal I would have done every time.

And I did.

What happened to us was we sold two brands between 2018 and 2020, so most of our properties like this we were doing are gone.

But in this deal, had we not sold, we could be in a different place than we have ever been on a deal before.

Let’s assume we closed in mid to late 2017 or early 2018, and it took six months to a year to get entitlements for the expansion and another ten months to a year to build.

The big factor for many people in this time frame is the inflation.

Over the last 12 months (Sept. 2022 to Sept. 2023), inflation is 3.7%. That’s within the range of workability for most self-storage operators.

However, in the years before above, inflation in 2022 was 8%. In 2021 it was 4.7%. In 2020 it was 1.23.

That’s almost 5% per year. And if you were stabilized, your rent growth could handle that for the most part.

However, if you were in lease-up on a value-add play, odds are you went two to three years with little or no price increases, and you had to offer concessions to lease up during this inflationary period.

I know people who missed their NOI projections by over 10%.

In this case, if you missed around 10%, your NOI would be slightly below $300,000.

It doesn’t sound like much, but let’s look at something.

It is now time to refinance your loan. Interest rates are 7.7%, and the bank will use a 7% CAP rate.

That means the project you thought would be worth $5,646,720 today, the bank is now saying is worth $4,285,714.

You can only borrow about $2.45 million because of your debt-coverage ratio, and your payoff is over $2.6. million.

A classic “Cash-In” refi.

If you see some self-storage people who look like a deer caught in the headlights, this might be part of it.

One solution may be hard money loans.

Yes, these loans cost a lot.

But hard money is for riskier, short-term situations.

I am not telling you to use them. I am saying consider it and see how that may work in any particular situation.

I know people who are using them as refinance options today. They typically have less restrictive loan covenants, can be paid off, and are a real alternative to traditional banking. I do not relate to them as a long-term play.

I know one person who uses their cash to buy below-market properties and fix them up. Then, refi with hard money and put on the market to sell. That way, he has a lot of flexibility, no hassle loan covenants, and no prepayment.

I know others who use hard money to do the value-add play, then sell.

It costs more to use these funds, but they pay it to skip the current banking hassles.

 So, this could be one more tool in your bag to pull out as you navigate through these times today.

Like all debt, use it with caution.

Hard money is another tool to use as we play the game of self-storage today.

Have fun.