How to Refinance Our Existing Mortgage and Why it Makes Sense
I would like to congratulate Rob Gould and the Board for their proposal and presentation related to the sale of the storage rooms. However, this idea would require a great deal of study and discussions regarding legal and fairness issues and would require a greater than 50% approval by all shareholders and, in my view, could potentially burden us with legal costs.
Our building needs to raise funds quickly as our financial situation continues to deteriorate. Financial assessments to offset projected revenue shortfalls will be onerous and could present a financial hardship for some shareholders. I believe that the co-op can quickly return to financial health by refinancing our existing mortgage. Refinancing will accomplish the following five benefits:
(1) Substantially lowers maintenance charges immediately. (2) Requires no financial outlays for refinancing costs by shareholders. (3) Immediate Increases in resale values for apartments. (4) Eliminates the need for future assessments. (5) Returns the building to financial health.
Background
In 1996, a period of low valuations for co-op apartments in Manhattan, faced with major difficulties refinancing a $10 million balloon mortgage that came due, the Board obtained a relatively unfavorable twenty (23) year mortgage from Freddie Mac - a lender of last resort- at an interest rate of about 9.15%. The loan requires monthly payments of principal and interest and calls for a prepayment penalty that ends in three years, by 2011. The prepayment penalty is approximately $200,000. It is important to note that our building is one of a relatively few that makes principal and interest payments on its mortgage.
Current 3 Hanover Square shareholders do not derive any immediate benefit from paying down the mortgage as apartment market prices do not reflect the fact that we have paid down a substantial amount of our original loan during the past 12 years. A sale of an apartment today would reflect prevailing market rates which would be higher if our maintenance charges were lower. Most NYC Boards realize that there is no financial benefit to paying down principal on a Co-op mortgage and make interest payments only.
The benefits from paying down our existing mortgage will be realized eleven years from now at which time most shareholders, assuming that the typical shareholder sells every seven years, will have been long gone. Financial conditions now favor our co-op: we are in relatively good financial shape and have established an unblemished twelve-year track record with Freddie Mac, which is now experiencing major financial difficulties of its own.
The US government has requested that financial institutions with subprime mortgages re-negotiate with borrowers that are experiencing financial difficulties. Our loan is not sub-prime. However, under prevailing conditions, I believe that 3 Hanover Square Board can make a good case for refinancing our mortgage with Freddie. Unlike 12years ago when our outstanding mortgage balance was greater than the sum valuation of all apartments, we have accumulated equity in our building due to repayment of a substantial amount of the original outstanding mortgage.
Further, our apartment values have increased due primarily to the general increases in real estate prices in NYC. If Freddie declines to refinance, other major financial institutions would more than likely be interested based on our strong repayment history, current financial condition and policies that limit subletting and rentals. Time is of the essence, however, as our finances should not be allowed to deteriorate further.
Why Refinancing will solve our problems?
A new mortgage should be based on interest payments only at a 30-year fixed rate. Currently, the interest rate on a 30-year fixed rate jumbo residential mortgage is approximately 6.5%.The required prepayment penalty, which should be renegotiated with Freddie to reflect a lower amount if at all possible, could be added to the existing mortgage balance and included in the refinancing amount. The prepayment penalty, therefore, would not require an assessment on shareholders or a drawdown of our reserves.
Based on current recessionary conditions in the US, and a weak US dollar, it would be most prudent to assume that three years from now - when the prepayment penalty period ends on our existing loan - interest rates in the US would be significantly higher than it is today due to the Federal Reserve Bank’s pressing need to maintain the US dollar as a worldwide reserve currency. Higher interest rates in three years would negate the benefits of refinancing in 2011. The time to refinance is now when rates are relatively low.
Based on the above financial assumptions and assuming a refinancing mortgage amount of $7,500,000, I estimate that maintenance charges for the co-op could decline by about $600,000, or, 60% annually.* The potential maintenance charge reductions make refinancing worthy of consideration by our Board.
*Note: Refinancing assumptions are approximate and subject to correction.
Ian D. Quan-Soon, MBA
Ian,
I disagree with a lot of what you are saying. Specifically #4 you can't tell people that your idea will eliminate future assessments. You have no idea what may come up in the building and unless you wan't to go through the reserve fund with your numbers we need an assessment in 2009 to do the $1,000,000 currently pending regardless.
What you say above is that since there is so much controversy about high interest loans in the news that our lendor will probably be persuaded to let us out early or help us re-finance? 100% doubt it. I have read of no such negotiations going on with any financial institutions. In fact they are fighting to preserve every loan even the ones that were outrageous.
How can you compare making a net profit next year of $1,400,000 and $91,000 extra for the next 30 years comparable with extending debt out and having a penalty payment from our reserve fund or new debt?
I don't have the formal MBA but I would much rather have income than push out my debt. Maybe I don't live in a Country, State or City that is paying off their debt, but at least I live in a building that does.
Also who ignored this mortgage when they bought? I discussed it at length with my financial advisor and he thought it was an awesome feature that we had a reserve and we were paying down our debt. It was one of the major reasons I bought in this co-op as opposed to 55 Liberty St who's finances are in shambles. It totally factored into my purchase price and made me pay more for the apartment.
Where do you get 7 years? I am here 4 already and almost all my neighbors pre-date me.
btw how is that a 60% reduction? I think you mean 60% reduction in debt fees? because it can't be a 60% reduction in overall maintenance we still have to pay the staff, buy fuel and buy floor wax.
What legal costs are you talking about? We have consulted our outside counsel, I am a lawyer and Joe is a lawyer. It is 100% totally legal to do this conversion and has been done in hundreds of other building - see articles on blog. Beside the cost of issuing the new shares I don't see any legal costs.
I am intrigued by the idea of re financing our mortgage if this is in any way beneficial to our financial situation. I would like to know more about it though, as the idea of only paying off the interest does not sound very good or smart to me. Like Rob, I was reassured by the buildings strong and healthy financials when I bought my apartment. I do believe that the re finance ideas could be addressed in addition to the storage room conversion. Why only stop at one suggestion if there can be additional ways to improve out building?
It sounds like, on a re-fi, the only way we'd pay less is on an interest only loan. That would reset the clock for another 30 years, at which time the existing shareholders will need to refinance.
I like the idea of the existing mortage dropping away in 13 years, because who knows how high expenses will be by then! With a re-fi, we would create a buffer for a few years, but then maintenance will likely need to go up, with no relief in sight as we'd be locked in for many years.
If it is done an auction basis (so that the highest available prices to the building are realized in the event there are multiple parties interested in the same space) with a minimum price floor (so that the space is not sold at a price that would not make economic sense to the building), I think the privatization and sale of storage space is a great idea.
However, it also sounds like it would make a lot of sense to at least have an idea of our available mortgage refinancing options. Without having looked into the issue in any detail, my uninformed first reaction is that a 9.15% mortgage interest rate seems significantly higher than prevailing market rates. If the board has determined that the co-op is currently unable to borrow at a lower rate or there are other factors that would make a refinancing at a lower rate otherwise impractical from an economic standpoint, it should present its findings to the shareholders in sufficient detail to enable them to make an informed vote on alternative options to address projected budget shortfalls. But it does not currently sound like anyone is looking into a refinancing option in any detail (e.g., seeking out formal proposals from our current and other potential lenders). If a refinancing at a lower rate is within the realm of possibility as a viable option for the building, it should be presented to the shareholders for consideration.
I do not think that a mortgage refinancing, on the one hand, and a privatization and sale of storage space, on the other hand, are mutually exclusive options. Personally, since I am currently one of the many residents not benefiting from an equitable share of communal space, I would be in favor of a sale of the storage space independent of any impending financial crisis; and the budget shortfall just seems like another, independent reason why a privatization and sale of storage space may make sense. That said, the first step in addressing any financial shortfall should be to examine and try to reduce operating costs, of which our current mortgage is the second largest single expense line item in the budget (just behind real estate taxes, over which we presumably have no control).
This post is in no way meant to be critical of the board, and I think they are doing a good job with the difficult task of anticipating and seeking to address future budget shortfalls. It just seems that examining refinancing options should also be something the board undertakes in keeping itself reasonably informed with respect to the financial future of our building. On a similar note, if we are entering lean times, perhaps we should evaluate the utility of catered meetings at Bayard's, holiday parties, etc.
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4 comments:
How to Refinance Our Existing Mortgage and Why it Makes Sense
I would like to congratulate Rob Gould and the Board for their proposal and presentation related to the sale of the storage rooms. However, this idea would require a great deal of study and discussions regarding legal and fairness issues and would require a greater than 50% approval by all shareholders and, in my view, could potentially burden us with legal costs.
Our building needs to raise funds quickly as our financial situation continues to deteriorate. Financial assessments to offset projected revenue shortfalls will be onerous and could present a financial hardship for some shareholders. I believe that the co-op can quickly return to financial health by refinancing our existing mortgage. Refinancing will accomplish the following five benefits:
(1) Substantially lowers maintenance charges immediately.
(2) Requires no financial outlays for refinancing costs by shareholders.
(3) Immediate Increases in resale values for apartments.
(4) Eliminates the need for future assessments.
(5) Returns the building to financial health.
Background
In 1996, a period of low valuations for co-op apartments in Manhattan, faced with major difficulties refinancing a $10 million balloon mortgage that came due, the Board obtained a relatively unfavorable twenty (23) year mortgage from Freddie Mac - a lender of last resort- at an interest rate of about 9.15%. The loan requires monthly payments of principal and interest and calls for a prepayment penalty that ends in three years, by 2011. The prepayment penalty is approximately $200,000. It is important to note that our building is one of a relatively few that makes principal and interest payments on its mortgage.
Current 3 Hanover Square shareholders do not derive any immediate benefit from paying down the mortgage as apartment market prices do not reflect the fact that we have paid down a substantial amount of our original loan during the past 12 years. A sale of an apartment today would reflect prevailing market rates which would be higher if our maintenance charges were lower. Most NYC Boards realize that there is no financial benefit to paying down principal on a Co-op mortgage and make interest payments only.
The benefits from paying down our existing mortgage will be realized eleven years from now at which time most shareholders, assuming that the typical shareholder sells every seven years, will have been long gone. Financial conditions now favor our co-op: we are in relatively good financial shape and have established an unblemished twelve-year track record with Freddie Mac, which is now experiencing major financial difficulties of its own.
The US government has requested that financial institutions with subprime mortgages re-negotiate with borrowers that are experiencing financial difficulties. Our loan is not sub-prime. However, under prevailing conditions, I believe that 3 Hanover Square Board can make a good case for refinancing our mortgage with Freddie. Unlike 12years ago when our outstanding mortgage balance was greater than the sum valuation of all apartments, we have accumulated equity in our building due to repayment of a substantial amount of the original outstanding mortgage.
Further, our apartment values have increased due primarily to the general increases in real estate prices in NYC. If Freddie declines to refinance, other major financial institutions would more than likely be interested based on our strong repayment history, current financial condition and policies that limit subletting and rentals. Time is of the essence, however, as our finances should not be allowed to deteriorate further.
Why Refinancing will solve our problems?
A new mortgage should be based on interest payments only at a 30-year fixed rate. Currently, the interest rate on a 30-year fixed rate jumbo residential mortgage is approximately 6.5%.The required prepayment penalty, which should be renegotiated with Freddie to reflect a lower amount if at all possible, could be added to the existing mortgage balance and included in the refinancing amount. The prepayment penalty, therefore, would not require an assessment on shareholders or a drawdown of our reserves.
Based on current recessionary conditions in the US, and a weak US dollar, it would be most prudent to assume that three years from now - when the prepayment penalty period ends on our existing loan - interest rates in the US would be significantly higher than it is today due to the Federal Reserve Bank’s pressing need to maintain the US dollar as a worldwide reserve currency. Higher interest rates in three years would negate the benefits of refinancing in 2011. The time to refinance is now when rates are relatively low.
Based on the above financial assumptions and assuming a refinancing mortgage amount of $7,500,000, I estimate that maintenance charges for the co-op could decline by about $600,000, or, 60% annually.* The potential maintenance charge reductions make refinancing worthy of consideration by our Board.
*Note: Refinancing assumptions are approximate and subject to correction.
Ian D. Quan-Soon, MBA
Ian,
I disagree with a lot of what you are saying. Specifically #4 you can't tell people that your idea will eliminate future assessments. You have no idea what may come up in the building and unless you wan't to go through the reserve fund with your numbers we need an assessment in 2009 to do the $1,000,000 currently pending regardless.
What you say above is that since there is so much controversy about high interest loans in the news that our lendor will probably be persuaded to let us out early or help us re-finance? 100% doubt it. I have read of no such negotiations going on with any financial institutions. In fact they are fighting to preserve every loan even the ones that were outrageous.
How can you compare making a net profit next year of $1,400,000 and $91,000 extra for the next 30 years comparable with extending debt out and having a penalty payment from our reserve fund or new debt?
I don't have the formal MBA but I would much rather have income than push out my debt. Maybe I don't live in a Country, State or City that is paying off their debt, but at least I live in a building that does.
Also who ignored this mortgage when they bought? I discussed it at length with my financial advisor and he thought it was an awesome feature that we had a reserve and we were paying down our debt. It was one of the major reasons I bought in this co-op as opposed to 55 Liberty St who's finances are in shambles. It totally factored into my purchase price and made me pay more for the apartment.
Where do you get 7 years? I am here 4 already and almost all my neighbors pre-date me.
btw how is that a 60% reduction? I think you mean 60% reduction in debt fees? because it can't be a 60% reduction in overall maintenance we still have to pay the staff, buy fuel and buy floor wax.
What legal costs are you talking about? We have consulted our outside counsel, I am a lawyer and Joe is a lawyer. It is 100% totally legal to do this conversion and has been done in hundreds of other building - see articles on blog. Beside the cost of issuing the new shares I don't see any legal costs.
Rob
I am intrigued by the idea of re financing our mortgage if this is in any way beneficial to our financial situation. I would like to know more about it though, as the idea of only paying off the interest does not sound very good or smart to me. Like Rob, I was reassured by the buildings strong and healthy financials when I bought my apartment.
I do believe that the re finance ideas could be addressed in addition to the storage room conversion.
Why only stop at one suggestion if there can be additional ways to improve out building?
It sounds like, on a re-fi, the only way we'd pay less is on an interest only loan. That would reset the clock for another 30 years, at which time the existing shareholders will need to refinance.
I like the idea of the existing mortage dropping away in 13 years, because who knows how high expenses will be by then! With a re-fi, we would create a buffer for a few years, but then maintenance will likely need to go up, with no relief in sight as we'd be locked in for many years.
If it is done an auction basis (so that the highest available prices to the building are realized in the event there are multiple parties interested in the same space) with a minimum price floor (so that the space is not sold at a price that would not make economic sense to the building), I think the privatization and sale of storage space is a great idea.
However, it also sounds like it would make a lot of sense to at least have an idea of our available mortgage refinancing options. Without having looked into the issue in any detail, my uninformed first reaction is that a 9.15% mortgage interest rate seems significantly higher than prevailing market rates. If the board has determined that the co-op is currently unable to borrow at a lower rate or there are other factors that would make a refinancing at a lower rate otherwise impractical from an economic standpoint, it should present its findings to the shareholders in sufficient detail to enable them to make an informed vote on alternative options to address projected budget shortfalls. But it does not currently sound like anyone is looking into a refinancing option in any detail (e.g., seeking out formal proposals from our current and other potential lenders). If a refinancing at a lower rate is within the realm of possibility as a viable option for the building, it should be presented to the shareholders for consideration.
I do not think that a mortgage refinancing, on the one hand, and a privatization and sale of storage space, on the other hand, are mutually exclusive options. Personally, since I am currently one of the many residents not benefiting from an equitable share of communal space, I would be in favor of a sale of the storage space independent of any impending financial crisis; and the budget shortfall just seems like another, independent reason why a privatization and sale of storage space may make sense. That said, the first step in addressing any financial shortfall should be to examine and try to reduce operating costs, of which our current mortgage is the second largest single expense line item in the budget (just behind real estate taxes, over which we presumably have no control).
This post is in no way meant to be critical of the board, and I think they are doing a good job with the difficult task of anticipating and seeking to address future budget shortfalls. It just seems that examining refinancing options should also be something the board undertakes in keeping itself reasonably informed with respect to the financial future of our building. On a similar note, if we are entering lean times, perhaps we should evaluate the utility of catered meetings at Bayard's, holiday parties, etc.
Eli
21D
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