Mixed-use developments that combine retail, commercial and residential uses, emphasize walkability and embrace the “live, work and play” motto are becoming increasingly popular in Greater Boston.
Financing mixed-use developments can be a profitable opportunity for lenders – from community banks to deep-pocketed private investors – but they can also be extremely complicated.
Local mixed-use projects in the works include Boston Landing, a massive, $500 million development in the Allston and Brighton section of Boston. The project will include the headquarters for New Balance, as well as offices, shops, restaurants, a hotel, athletic complex and a new MBTA commuter rail station. Residential space has also recently been proposed.
In Somerville, a Chicago developer will oversee the $1 billion rebuilding of Union Square into a mixed-use institutional, commercial and residential, transit-oriented district.
And on Boston’s waterfront, developer Donald Chiofaro’s proposed $1 billion mixed-use, twin towers project on the site of the Harbor Garage on Atlantic Avenue is finally gaining support in City Hall. The towers would house up to 300 hotel rooms, 120 luxury condominiums and three levels of retail and restaurants.
More mixed-use developments are on the way in Boston and surrounding communities.
While each project is complex in its own way, in almost every mixed-used project a lender will confront similar issues in dealing with the borrower, the municipality and other lenders involved in financing the project.
Establishing Loan Terms
Given the complications and risks of mixed-use developments, lenders generally will prefer a developer with whom they have an established relationship or who has a strong track record and reputation for building similar projects. Assuming an attractive sponsor, site and mix of real estate asset types, a lender will underwrite both the individual components of the development and the project’s overall feasibility to establish its loan terms.
It is not uncommon to include a commitment limited to 65 percent of costs or 70 percent of stabilized value and a construction term of 12 to 36 months, followed by a “mini-perm” feature, in which the term of the loan extends for a year or two past the completion date.
After finalizing the terms of the lender’s commitment, the parties will enter into what is, for the most part, customary construction loan documentation. Lenders will require a completion guaranty in addition to the loan agreement, note and mortgage, and also may require a full or partial payment guaranty, which usually will terminate or be released once construction is complete and the property meets certain debt service coverage thresholds.
Land Disposition Agreements
Because many urban developments are constructed on land purchased or leased from a municipality, lenders will need to scrutinize the applicable purchase and sale agreement or ground lease under which the municipality agrees to sell or lease the land to the developer.
Lenders should confirm that funds are budgeted to pay for any fees due under the land disposition agreement (LDA) and that the required time to complete construction under the LDA is consistent with the loan term and project schedule.
Each LDA typically contains covenants regarding the developer’s construction of the project and provide that upon breach of the agreement, the property may be reconveyed to the municipality.
The lender should always verify that the borrower is in current compliance with its obligations under the LDA and, at the same time, specify in the loan documents that a breach by the borrower of its subsequent obligations under the LDA shall constitute a default under the loan.
Condo Concerns
In the Boston area, many urban mixed-use developments are structured as condominiums, in which the various components (for example, residential tower, garage and hotel) constitute separate units of the condominium.
If the developer does not own all the units within the condominium, lenders should confirm that the developer controls management of the condominium association throughout the term of the loan. A lender also will want to ensure that customary mortgagee protection provisions are in place, including the lender’s right to cure defaults and approve certain major decisions affecting the condominium or the condominium documents.
Given the multiple asset types in mixed-use developments, project costs that may approach or exceed $100 million and the fact that certain components may be eligible for tax credits, more than one lending source may provide construction financing. When various lenders fund different components of a mixed-use project, each lender needs to be certain that its specific collateral is protected.
Although more complicated than standard construction loans, mixed-use developments can, when properly structured, be a profitable and high-profile piece of a lender’s portfolio.
Eric D. Lemont is an attorney with Sullivan & Worcester’s real estate department in Boston.
