FDIC Reports High Volumes of Delinquent Construction Loans

FDIC Reports High Volumes of Delinquent Construction Loans
By Kelli Galippo • Dec 13th, 2010

Nationally, one out of every six dollars of construction and development (C&D) loans issued by banks, roughly 16% of all C&D loans, are at least 90 days delinquent as of September 30, 2010. Another 2% are 30 to 90 days delinquent.

Fourteen percent of all C&D loans in the 12th Federal Reserve District (Alaska, Washington, Oregon, California, Idaho, Nevada, Utah, Arizona and Hawaii) are more than 90 days delinquent. 3.7% of all types of bank loans in California are more than 90 days delinquent.

This trend in delinquencies has remained largely unchanged in the last three months. The rate of delinquency on C&D loans is eight times greater than the rate of delinquency for any other type of real estate or personal loan.

The volume of C&D loans held by banks nationally has decreased by 28% since 2009, from $493 billion to $385 billion at the end of the third quarter of 2010.

Vacancies and unemployment continue to plague the Golden State, leaving many newly-built or recently-improved commercial properties burdened with sizeable C&D loans with no way to pay them back.

Consider the following example: at the end of 2007, a bank lends a business funds to construct an office or warehouse (or improve an existing property) and collects prepaid interest for 18 to 36 months so the business can be up and running and able to generate income. The Millennium Boom peaks and ushers in the Great Recession. The economic condition that existed when the loan was entered into no longer exists, and the business is not able to generate sufficient revenue, trapping it without the means of paying back the loan. [For more information regarding office vacancy, see the August 2010 article, Office vacancies deliver rock-bottom leasing rates.]

Along with high vacancy rates, employment shows no sign of any significant pick up in the near future although an upward trend seems to be underway. As a result, businesses and speculative developers are taking a crippling hit to their revenue and are unable to pay back their C&D loans. Low additional monthly employment gains (California is down 1.4 million jobs since the peak in 2007) translate to listless consumer spending, which means a smaller portion of business income and generally lower profits are available for loan payments. [For more information regarding employment, see the November 2010 Market Factor, Jobs move real estate.]

While C&D loan delinquency is presently a flat but bleak spot in the broader economy, analysts are observing a rise in entrepreneurial start-ups that will help lead California to an organic economic recovery — an optimistic sign for the future. The rate of entrepreneurial activity in 2009 was the highest it’s been in 14 years.

While many start-ups lack the financial reserves necessary to build their own commercial property, or lease property from another business, it is in the best interest of both the property owner (and by extension, the entrepreneur) to fill vacancies. Innovative real estate professionals will look for ways to negotiate rent in the form of stock-options, percentage lease arrangements or other profit-sharing alternatives. [For more information regarding how California agents can ride the entrepreneurial wave, see the November 2010 article, Entrepreneurs may “start-up” the recovery and the November 2010, The demographics forging California’s real estate market: a study of forthcoming trends and opportunities – Part II.]

Re: “Overdue C&D Loans Continue to Plague Banks” from ProSales Online

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