The Freddie Mac Small Balance Loan Program: What Investors Should Know
High Leverage, Non-Recourse Apartment Loans Starting at $1 Million
Investors have a lot of options when it comes to getting apartment financing, but one of the best choices is often the Freddie Mac Optigo Small Balance Loan program, also known as the SBL program. In 2018, the Freddie Mac Small Balance Loan program offered investors $7.4 billion in financing, issuing 2,771 individual loans with an average loan size of $2.6 million.
The SBL program is unique in the fact that it offers loans in amounts as little as $1 million, as well as offering highly competitive interest rates, high leverage, and a good deal of flexibility when it comes to term lengths. Of course, the SBL program isn’t perfect for everyone; in general, borrowers must have excellent credit, a reasonable degree of apartment ownership experience, and should possess a net worth at least as large as the loan amount.
It should be noted upfront that pricing for the Small Balance Loan program varies depending on the size of the market a property is located in, as well as the region in which it is located. Freddie Mac has classified each market as a Top, Standard, Small, or Very Small Market, and has also divided the country into 5 regions; Northeast, Southeast, North Central, South Central, and Western. As of July 2019, rates ranged from 4.08% to 5.16%, with the highest rates for 5-year loans for properties in Small and Very Small Markets located in the Northeast Region, and the lowest rates for 10-year loans located in Top Markets in the Western Region.
Basic Loan Terms for the Freddie Mac SBL Program
For your understanding, we’ve listed the basic terms of the SBL program below:
Loan Size: $1 million to $7.5 million
Loan Term Options:
- Fixed-Rate SBL: 5, 7, and 10-year options available.
- Hybrid ARM SBL: 5/5, 7/13, and 10/10 options available.
Amortization: 30-years
LTV:
- Top and Standard Markets:
- 80% for purchases and refinances
- 65% for full-term interest-only loans
- Small and Very Small Markets:
- 75% for purchases and 70% for refinances
- 60% for full-term interest-only loans
DSCR:
- Top Markets: 1.20x
- Standard Markets: 1.25x
- Small Markets: 1.30x
- Very Small Markets: 1.40x
Prepayment Terms:
Step downs or yield maintenance. Step downs are structured like so:
- Hybrid Adjustable-Rate Loans:
- 5-/15: 5, 4, 3, 2, 1
- 7/13: 5, 5, 4, 4, 3, 2, 1
- 10/10: 5, 5, 4, 4, 3, 3, 2, 2, 1, 1
- Fixed-Rate Loans:
- 5-Years: 5, 4, 3, 2, 1
- 7-Years: 5, 5, 4, 4, 3, 2, 1
- 10-Years: 5, 5, 4, 4, 3, 3, 2, 2, 1, 1
Fees and Escrow
- Application fees of $4,500 for Top Markets and $8,500 for Standard Markets are required.
- Insurance, replacement reserve escrows, and real estate tax escrows are required, though they can often be deferred.
- Replacement reserves are required, usually ranging from $200-$300/unit per year.
Major Advantages of the Freddie Mac SBL Program
Some of the major advantages of the Freddie Mac Small Balance Loan program include:
- Flexible terms: Loan options include fixed-rate loans with 5,7, or 10-year terms, as well as hybrid adjustable rate loans in a 5+5, 7+13, and 10+10 configurations (for example, 5/5 would be a 5-year fixed-rate term followed by a 5-year floating rate term). Partial interest-only options available, with full-term interest-only options available under certain circumstances.
- Non-recourse: Optigo SBL apartment loans are non-recourse with standard “bad boy” carve-outs, which means that even if a borrower defaults, the lender cannot attempt to go after their personal assets. Instead, they can only foreclose on the apartment property itself. However, if a borrower violates a loan’s carve-outs, the lender can typically go after their personal assets. Loan carve-outs are typically triggered upon instances of fraud, embezzlement, intentional bankruptcy, and other “bad acts.”
- Flexible loan sizes: The Small Balance Loan program is one of the few apartment loan programs to start at only $1 million, which can be very beneficial for investors looking to purchase or refinance a smaller apartment complex. Loans generally go up to $7.5 million, though loans above $6 million may have slightly different requirements.
- Competitive interest rates: As of July 2019, rates range from 4.08% to 5.16%, depending on term length, whether a loan is a fixed-rate or a hybrid ARM, whether the loan is in a Top, Standard, Small, or Very Small market, and which region the property is located in.
- Longer amortizations: Unlike bank loans, which typically have amortizations topping out at 20–25 years, the Freddie Mac SBL program offers borrowers 30-year amortizations, which can make a big dent in a borrower’s monthly payments — as well as allowing them to qualify for larger loans.
- Generous leverage: The SBL program permits up to 80% LTV for purchases and refinances in Top and Standard Markets while permitting up to 75% LTV for purchases and up to 70% for refinances in Small Markets.
In addition to these benefits, Small Balance Loans are fully assumable, and the program offers 60 to 120-day rate locks.
Disadvantages of the Freddie Mac SBL Program
Like we mentioned earlier, the SBL program isn’t for everyone. It does have some disadvantages, including:
- Apartment investing experience required: The SBL program typically requires borrowers to have substantial apartment ownership experience. This means it’s generally not a good fit for first-time or inexperienced investors.
- Net worth/liquidity requirements: Requires borrowers to have a net worth of at least the entire loan amount, and minimum liquidity equal at least 9 months of principal and interest payments.
- Limited property types: The SBL program does not allow for senior living facilities, certain affordable properties (including below-market Section 8 housing and most LIHTC properties), or properties with a military or student housing concentration above 50%.
- Expensive application: Application fees between $4,500-$8,500, generally not including third-party reports.
- Replacement reserves: Replacement reserves are required, often costing up to $300/unit.
- Replacement reserves: Subordinate financing (such as mezzanine loans) is generally not permitted.
- Lower leverage in smaller markets: May not be ideal for smaller markets (as loans in Small and Very Small Markets have increased DSCR and stricter LTV requirements).
Comparing the Freddie Mac SBL Program to Other Apartment Loans
When compared to most other types of small balance apartment financing, Freddie Mac’s Optigo Small Balance Loan program shines — at least in most situations. Fannie Mae’s Small Loan program is a viable competitor for some borrowers, particularly those in smaller markets where Small Balance Loans can get somewhat more expensive (and have higher leverage requirements). Fannie Mae Small Loans also offer 30-year fixed and fully amortizing loan terms, with loan amounts ranging from $750,000 to $6 million. Despite those benefits, these loans have stricter credit score requirements, as well as stricter tenant requirements and commercial space restrictions.
If a borrower is looking for apartment financing in excess of $2 million, CMBS often remains a suitable choice. Through the CMBS loan servicing process may be less than ideal, conduit lenders are more willing to overlook credit issues and don’t generally have high borrower net worth requirements. For loans over $3 million, borrowers may also find the Fannie Mae DUS loan program to their liking. Like Fannie Mae Small Loans, the DUS program offers a variety of term options, including 30-year fixed and fully amortizing loans. Finally, for properties requiring loans on the pricier end of the spectrum (i.e. $6–7.5 million), Freddie Mac Fixed-Rate Loans are also a viable option; though substantially more expensive to apply for than Small Balance Loans, they can offer more flexibility in certain areas. For instance, these loans generally permit subordinate/supplemental financing.
