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For Rent sign in front of new house

The State of Rental Financing

Last November the Department of Finance banned default insurance on single-family rentals. That was a near-knockout blow to the rental financing businesses of lenders who rely on securitization.

Since then, lenders who compete with the big banks have been forced to find new balance sheet funding. The extra cost of that funding has led a majority of lenders to jack up their rental rates by 15-25 bps. That’s up to $2,300 more interest that folks must now pay on a $200,000 rental mortgage.

Or do they?

While the rental businesses struggle at monoline lenders, some of the largest banks are apparently giving regular residential rates to many of their renewing rental borrowers. That’s a big problem for brokers, who often have no way of matching those rates.

It’s also a problem for consumers, who face a loss of competition in the rental financing market. They now have fewer cost-effective alternatives to the major banks, whose products often entail higher early breakage penalties. (Banks can’t be blamed for the Department of Finance’s actions so this is merely an observation, not a jab against them.)

What Now?

“I think transactional based brokers without a measurable value add—who are not differentiating themselves—are in big trouble, full stop,” says Calum Ross, broker and author of The Real Estate Retirement Plan.

But Ross says the challenges are far less of an issue for brokers “who offer full service financial planning and integrate the [rental] property into the [client’s] larger financial plan.”

“If you don’t have a clear value proposition, you are a commodity and commodities get used for price,” he says, adding that the new environment is destined to “cull the herd” of brokers. “The fact is, a more competitive [rental financing] market will cut margins and force us all to improve our game.”

Rental financing professionals must be able to demonstrate their ability to save clients more than that 15-25 basis points, he says. That amounts to just 10-15 bps on an after-tax basis since most investors tend to be at higher marginal tax rates.

But the challenges don’t end there. With anecdotal reports of broker-channel banks tightening up their internal rental financing criteria, rental lending options could continue to shrink in the “A” market. Brokers who specialize in income property financing may have to get increasingly comfortable with non-prime alternatives.