Investor Report: Bad Bank Program by Kenneth R. Harney - Thu, Feb 5, 2009

Posted Sun Feb 08 09:22AM

It won't make today's tough underwriting and heavy equity requirements disappear overnight, but active real estate investors should keep their eyes on the Treasury's plans to create what's called a “bad bank” or toxic asset purchase program.

What's a “bad bank”? The one under consideration at Treasury would buy frozen mortgage assets off the books of large and small commercial banks. That in turn would give them the capital they need to lend to all sort of borrowers, including real estate investors.

Most investors -- whether active in rental residential or commercial properties -- have the same frustration right now: Banks simply aren't lending. If they are, the underwriting requirements and terms are deal-breakers.

Even banks that have received buckets of bailout money from the federal government aren't lending on real estate. Part of the reason, the banks say, is that their portfolios are clogged with mortgage-backed securities that nobody wants and that are difficult to value.

They can't raise new capital for new lending without getting rid of these assets. And that's where the “bad bank” idea comes in.

Under one Treasury plan, the FDIC would create an institution -- similar in some ways to the Resolution Trust Corporation that helped with the S&L crisis in the early 1990s -- that would buy these assets and eventually resell them when market conditions improve.

How tough has the credit squeeze on residential and commercial income investment real estate gotten lately?

Last week the Federal Reserve Board released its latest quarterly survey of lending executives and found that 80 percent of ALL banks had ratcheted down their lending standards on investment real estate during the prior three months -- forcing investors to put down far larger equity money up front and pay higher fees.

Those tougher restrictions can be seen throughout the real estate sector. For example, many larger wholesale lenders now require minimum 40 percent and 50 percent downpayment cash -- plus credit scores above 740 - just to qualify for the best terms on a small rental property purchase.

If you can't afford that sort of heavy equity up front, be prepared to get whiplashed with high rates, “delivery fees” and other penalties, because the hard reality is: The banks don't want to lend, or don't have the capital to lend, for real estate.

Sure, Fannie and Freddie and FHA are funding home buyers and refinancers, but the real squeeze is on investors.

Will a “bad bank” or new RTC loosen up the pipeline, as the Treasury claims? That's hard to say, but we'll keep you posted on what develops in the weeks ahead. Today's Local Market Conditions Report

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