In this period of divided government in Washington, D.C., the prospects of Congress further unwinding Obama-era regulations on commercial real estate lenders isn’t likely. During the Trump administration’s first two years, however, Congress loosened some of the knots on lending.
Federal agencies that oversee banks and financial institutions also unwound some of the tougher rules put in place during the final years of the previous administration. Some of this deregulation will take effect at the beginning of 2020. Other pending changes will help commercial hard money and private lenders, while some will likely boost the commercial real estate lending activity of banks and other traditional lenders.
Recent rule changes that kick in at the beginning of next year could make banks and credit unions more active players in commercial real estate deals. There are several examples of how this could be accomplished.
Deregulation recently made it easier for Federal Home Loan Banks (FHLBs) to underwrite new loans starting in January 2020. FHLBs are private cooperatives that provide liquidity to member banks to support housing and commercial real estate projects, particularly in lower-income areas. These 11 institutions around the country provide much of the money that banks lend to consumers and businesses. FHLBs, in turn, borrow money from national and international investors. These banks are required to hold capital, but that mandated capital level is affected by the relative riskiness of the lending they do.
The Federal Housing Finance Agency (FHFA), which oversees the home loan bank system, made a change that will reduce the cost of compliance felt by these banks. The rule change allows them to use internal rating methodologies for calculating the credit risk charged against their capital. In other words, these banks can use their own methods to rate their risk, instead of using the tougher and more costly credit-risk reports issued by a third-party rating organization. The rule is effective on Jan. 1, 2020.
Another recent decision provides FHLBs greater authority to allocate federal subsidies for owner-occupied and multifamily housing. In each of these cases, the decisions were designed to make it easier for FHLBs to underwrite commercial real estate loans. For private lenders used to a steady stream of borrowers who were rejected by FHLBs, watch out for sharper elbows from banks when the new rules go into effect next year.
In 2015, another rule was put on the books by regulators requiring credit unions to hold more capital to mitigate more of the risk basis of loans they make. This rule was set to apply to any credit union with more than $100 million in assets, and it likely would have significantly curtailed new commercial real estate lending by credit unions, given that these institutions hold relatively limited assets on their balance sheets compared to banks. The rule was supposed to go into effect this past January, but Trump administration regulators delayed and ultimately modified it. The threshold for application was raised and the rule now only applies to credit unions with more than $500 million in assets.
Credit unions may start competing with private lenders for loans they wouldn’t have looked at this year. Although credit unions tend to be focused on consumer lending, they are now likely to increase their commercial real estate lending. As of first-quarter 2019, there were about 5,300 active credit unions in the U.S., according to the National Credit Union Administration. Only 570 of these institutions, or 11%, will face a change in capital requirements for loan risk. Expect the majority of credit unions to be more active with commercial loan originations than you’ve seen in the past.
What we’ve seen under the Trump administration is a series of pinpricks to loosen Obama-era rules.
Changes at HUD
On the other hand, the U.S. Department of Housing and Urban Development (HUD) has made a move that should help lenders of all types to do deals in lower-income areas.
HUD provides block grants for low-income housing developments. Part of its charter is to stamp out racial discrimination or segregation at the community level. To that end, during the Obama administration, a rule known as the 2015 Affirmatively Furthering Fair Housing Act was issued that required any community receiving block-grant funding from HUD to complete a comprehensive, multiyear study of its housing stock and fashion plans to fix any patterns of segregation and discrimination it may find.
The agency launched a special analytical tool, known as the Local Government Assessment Tool (LGTA), that the reporting communities had to use to conduct the assessment. The requirement created a lot of confusion, given that the analysis was new, that it examined housing patterns over several years and that it relied on some ambiguous language. HUD failed to respond in a timely manner to reports issued by communities, leaving some participants unhappy and flummoxed.
HUD Secretary Ben Carson froze review of all submitted assessments and took steps to overturn the rule entirely. HUD was quickly sued by fair housing groups and state governments. In a bureaucratic maneuver, however, HUD simply withdrew the LGTA tool, providing communities no way to carry out and submit the required analysis. By effectively nullifying the rule, HUD has made it easier for developers — some of whom may be your borrowers — to obtain block grants in low-income areas.
Deregulation recently made it easier for Federal Home Loan Banks (FHLBs) to underwrite new loans starting in January 2020.
The U.S. Small Business Administration (SBA) also has made a key change. For construction projects involving government entities and private enterprises, contractors and subcontractors must post surety bonds that guarantee their work will be completed or the project’s sponsor (the bond’s “obligee”) gets back their money.
If you have borrowers that are small contractors, you’re probably aware that many contractors simply don’t have a strong enough balance sheet to obtain bonds through regular commercial lending channels. Stepping into this gap has been the SBA’s Surety Bond Guarantee Program, which finances the bid, payment and performance bonds for smaller players.
SBA rules tend to be complicated and onerous to complete, however. Earlier this year, the agency identified a group of bond programs that could be repealed or changed in an attempt to make the process easier for small contractors to complete. The proposed action is still in the public comment phase, but it is expected to become final in 2020. This should make life easier for many of your current or future borrowers.
In another change, commercial real estate transactions involving banks and other federally guaranteed lenders have long been subject to rules requiring appraisals to be undertaken prior to a deal being done. The purpose of the rule is to have a uniform set of standards for how and when appraisals are required. These mandated appraisals are more costly than ordinary ones.
The rule was originally codified under Title XI of the Financial Institutions Reform, Recovery, and Enforcement Act of 1989, and it applied to any transaction of $250,000 or more. However, in 2017, the relevant federal agencies proposed to increase the threshold for the appraisal requirement from $250,000 to $400,000. Last year, the rule was finally revised, raising the threshold to $500,000. This saves a lot of time, costs and headaches for transactions below that threshold.
Deregulation does not necessarily happen in broad strokes. What we’ve seen under the Trump administration is a series of pinpricks to loosen Obama-era rules. Some of these, such as credit union and bank deregulation, enjoyed bipartisan support. Others are fraught with political overtones, such as HUD ending the community-analysis requirement for racial discrimination and segregation.
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Taken together, these pinpricks make it easier for traditional lenders to do business. They help banks a bit more than they help private lenders and nonbanks. But, looking ahead, there is one thing we can be certain of: If the balance of power shifts in D.C. in 2020 or 2024, the pendulum will likely swing the other way toward increased regulation.