Increasingly, apartment building lenders are requiring T-12 or trailing-12 income and expense statements when financing properties. So, this blog entry is an urgent entreaty to all apartment property owners to begin creating and storing monthly income and expense statements electronically. When refinancing or when a buyer is arranging purchase financing, the underwriting process will be far simpler when 12 monthly statements are readily available.
A trailing-12 statement (also called a T-12) is an income and expense statement for each of the preceding 12 months. If loan underwriting is being done in May of a particular year, the trailing-12 will consist of an income and expense statement for each month from May of the preceding year to April of the then-current year. The trailing-12 can be presented as 12 individual monthly income and expense statements, or as 12 vertical columns on a single spread sheet. Either format works fine.
Why do lenders need this? The trailing-12 is used to demonstrate stability in the occupancy and expenses of the property. Ideally, the trailing-12 statement shows gross rental revenues holding steady or perhaps drifting upwards as rents are increased or tenants get replaced with new ones. If a long-term tenant paying low rent moves out and is replaced with a new one paying higher market rent, gross rental revenues will increase. Expenses are expected to remain steady without sharp increases or mysterious decreases. During periods of low maintenance and repairs, maintenance and repair reserves can be set aside such that there is steadiness and liquidity.
If gross rental revenues decrease or expenses increase, it will be necessary to provide explanation. Certainly, holding units off the market for refurbishment after a move-out is a good reason for decreases in gross rents and increases in expenses. It will be necessary to document the increased expenses. The loan officer can help with this.
Stability in gross rents has yet another dimension. Underwriters need to see that occupancy is stable. Many loans (including Fannie Mae and Freddie Mac loans) require the property to have occupancy of 90% or more for the past 90 or more days at market rents with minimal or no rent concessions. If market occupancy is less than 90%, underwriters need to see the property is at or above market occupancy at something in the neighborhood of market rents without many rent concessions, if any. The trailing 12 will demonstrate that the property complies in all these areas and more month-by-month, assuming it does.
While this blog entry is a request for owners to create, maintain, and store accurate monthly income and expense statements, it’s also an entreaty for owners to operate their properties in a stable manner. Many properties are free and clear and so are operated without regard to the needs of lenders. When it eventually comes time to sell the property, difficulty and delay can ensue if adequate financial information is not available for the finance industry. Easy-to-use forms are readily available.
Finally, it’s critical to charge a property only with expenses it incurs. It’s frustrating when an income and expense statement comes in with mysteriously high expenses or low gross rental revenue, and no explanation. Upon inquiry, the borrower explains that he/she or the tax preparer found it convenient to add up expenses for a number of small properties and charge them all to the Subject property being financed. This can frustrate or even flummox a financing. Tax preparers need to be instructed to not do this as well, and to only charge a property with actual expenses. Underwriters need to see the actual income and expenses incurred by the property in order to offer the lowest rates and best terms for that property. They cannot do that with tricked information.