Reducing Personal Risk While Increasing Real Estate Debt

I know, it sounds strange doesn’t it? Counterintuitive even. Well, a real estate holding company comprised of physicians from Desert Orthopedics and Bend Surgery Center, in Bend Oregon have refinanced their primary facility and thus reduced risk as one of the many benefits of this unique refinancing transaction. How was the risk reduced? Asset protection! Increasing debt monetizes equity; cash goes into the owners’ pockets. If the lender can never reach back into those individuals’ pockets, those owners now have better protected assets than exposed equity in a financed building.

As we all know, when a building is used as collateral for a loan, the lender has a lien against the building. In the doomsday scenario (foreclosure) the bank can take that real estate. However, a bank’s rights to collect certainly does not end there – commercial (entity) and personal guarantees often act as another potential source of repayment for bank.

An oft-coveted distinction for an owner-occupied medical real estate loan is to have no personal guarantees. The elimination of that contingent liability helps the worriers amongst us sleep better at night. Non-recourse financing (from a personal owner standpoint) is often accompanied with a guaranty of the related practice and/or surgery center tenant to provide sufficient credit support for the bank. So, this operating entity that the physician may well also own does typically have a layer of exposure.

However, in the case of the Bend Surgery Center/Desert Orthopedics financing, that was not the case! This pure non-recourse financing only required the guaranty of the sub-entity building owner entities. This absence of meaningful guarantees makes a cash-out refinance that much sweeter – not only are the owners receiving a cash windfall, the funds are also forever out of the reach of the bank whether held by their practice or by them personally.

All that said, a truly successful refinance rarely accomplishes just a single objective. In addition to asset protection, the cash out enables the ownership groups to more easily re-syndicate ownership. They had struggled for years with the unaffordability of integrating new partners, but that is no longer the case. Additionally, despite borrowing significantly more debt, an unusually long amortization (30 years) and aggressive pricing helped to keep the monthly payment low resulting in a greatly improved return on equity. The ownership was thrilled with the obvious economic outcomes.  The additional asset protection was certainly an added intangible benefit that was less blatant, but also tremendously valuable.