To Defer or Not to Defer – By Moskowitz Capital
Mortgage deferral programs are a silver lining for companies experiencing financial distress, and the question remains for some business and property owners; is the current opportunity to defer payments advantageous?
If revenue has ceased and overhead costs and payroll requires scraping together every dollar, then conserving cash is required and a deferral necessary.
But what happens if you’re still doing ok? Isn’t this a great opportunity to push pause on some payments, decrease your obligations and use the extra cash for internal purposes? Unlikely. Temporarily reducing debt obligations is not the same as reducing expenses. It is not a cost cutting measure. Mortgage deferrals are not a forgiveness. And it can be expensive.
While lenders may be willing to defer payments, they may remember this going forward. On a ten-year mortgage with a 4% interest rate, an increased risk rating from your lender resulting in a 1% rate increase means that the total additional cost of a six-month deferral (including capitalization of interest payments) over the ten-year term would be approximately 6% of the original principal. On a $2,000,000 mortgage, additional interest costs would amount to $126,641 and an increase in annual payments of $16,680 on the same amortization schedule, an almost 7% increase. If ever you touted yourself rate or fee sensitive during a mortgage negotiation, it would be contradictory to take advantage of mortgage deferrals.
Many businesses have debt servicing and debt-to-equity covenants with their lenders. Deferring your payments can push your business towards covenant breaches, that can end up in the notes of your financial statements, a lasting memoir for future borrowing. Come renewal or refinance, a lower debt servicing and higher loan-to-value will be assessed a higher risk rating, giving you less leverage in a price negotiation with your banker.
Many lenders rely heavily on institutional memory. The borrowers that continued to meet their obligations will undoubtedly receive higher credit scoring. The opportunity is to be in that basket of borrowers.
What if you fall somewhere in between? What are the options that allow you the opportunity to capitalize on a future gold star relationship with your lender, while easing some of your cash concerns?
– Communicate with transparency to your lender.
– What have you modelled? How do you plan on weathering the storm? Be sure to simplify your plans and models in a clear and concise manner. Your lender has a lot on their plate, and an inability to summarize makes it difficult for them to jump on board.
– If you’re on a term loan, consider extending your amortization. Or negotiate reduced payments, but don’t defer them. This option still has costs, but it leaves you continuing to make payments to your lender while easing the cash outflow.
– Consider discussing financing solutions with your other main suppliers.
If you’re interested in keeping your cost of capital low in the long term, maintain the best relationship with your lender as possible. Don’t sacrifice long-term returns for short-term convenience, unless left with no other choice.