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Debt Capacity Analysis Roundtable Discussion

Debt Capacity Analysis Roundtable Discussion

Are you looking for a loan to bridge the gap between your capital campaign and that new sanctuary you need for your growing congregation? Seeking to borrow the bucks necessary to buy and renovate that old building next door for classroom space? And if either one is the casedo you have any idea how much debt your congregation can prudently take on in the first place?

To find out how to address that last questionand get answers to some others Worship Facilities Magazine spoke with Scott Rolfs, managing director of the Church and School Finance division of Milwaukee, Wisconsin-based Ziegler Capital Markets, a full-service financial services company; Dan Mikes, executive vice president, Bank of the West - Church and Educational Institution Banking Division, Walnut Creek, California; Doug Turner, president of Dallas, Texas-based RSI Church Stewardship Group, a capital campaign group; and David Van Winkle, vice president of ministry development for Brea, California-based Evangelical Christian Credit Union.

WFM: Are loans for church facility acquisition/construction/renovation readily available these daysand if so, who is making them?

Mikes: There has been a steady increase in the ranks of lenders taking an interest in the church market, because a long well-kept secret is finally outchurches can be great credit risks, if the lending is handled responsibly.

Van Winkle: There are numerous lending options available to churches. There are a variety of conventional loans from credit unions, banks, and denomination lenders, as well as bond financing through various bond providers. It's also possible to work with indirect lenders, which are third parties that sell a variety of loan products from various sources.

Rolfs: There is no shortage of capital available for churches these days. Indeed, in many respects, there has been an excess of capital out there for the past several years across all industries. The good news is that this abundance has allowed some great churches to build wonderful facilities; the bad news, though, is that some churches have found themselves taking on so much debt that they literally could no longer function as churches.

Turner: Banks, church bond companies, and credit unions are several sources churches may investigate when looking for a potential lending partner; there are many denominational lending associations as well. Organizations that have a niche in church finance, or exclusively lend to churches, may have a better understanding of how to meet their unique needs.

WFM: How does a church determine how much it can afford to borrow for a major capital project? Does my church need to do some type of internal "debt capacity analysis," or does the lender do that for us?

Van Winkle: Let the lender help you out with thisand you can help the lender out by putting together a good summary of your loan request to help them understand your needs and resources. Include the purpose of the loan; collateral offered; and how the funds will be used. If you wish, also include specifics like desired interest rate rangeand the maximum payment you're able to handle.

The more information you can provide regarding your project, ministry, and vision, the better the lender can assess your financing optionsand provide a solution that includes both financing and cash management components.

Rolfs: Every lender is going to do its own internal debt capacity test with its own special requirements/benchmarks; for example, one very common rule of thumb is A church should never borrow more than four times last year's revenue.' However, that type of test doesn't take into account the impact of the interest rate on the loan which affects the amount of the mortgage payment. Nor will the four-times revenue test account for whether the church has the cash flow surplus to make the mortgage payments after accounting for operating expenses.

Mikes: A general rule of thumb is that a church can borrow a maximum of three times their prior year's contributionsso for a church that had $1 million in contributions last year, their borrowing/debt capacity is going to be around $3 million. In those instances where you are not looking at significant growth in the congregation and revenues, the church would probably want its monthly debt service requirement to look something like whatever its net operating cash flow was prior to the start of any capital campaign. Conversely, a church that is projecting significant growth could feel more comfortable with a higher number.

A church that is entering a new construction or expansion project typically starts out with a capital campaign to raise money from its congregation. Those campaigns usually last about three years. And once the pledge commitments stop coming in, they are going to have to use operating cash flow to pay off any loan.

What churches have to avoid is overbuilding and overborrowing so that, at the end of the capital campaign, they find themselves in a situation where instead of the building serving the ministry, the ministry is serving the building.

WFM: What kind of homework' should a church do prior to seeking financing for a major project?

Rolfs: The most important thing is for the church to have a realistic and accurate assessment of the sources and uses of funds for its project. Most don't, at least initially. For example, maybe the church plans to rely on the proceeds of selling an old facility to cover the cost of a projectbut they might not have a good handle on its true value in their market, or they may be unaware of the fact that church buildings can sometimes be very difficult to sell.

The final bid cost is another area to watch out for. The architect may be telling the church that the building of its dreams is going to cost $5 million. But a closer look at the project may reveal expensive complicationsfor example, the site may have significant development problems, zoning issues, or the governmental authorities may require specific infrastructure improvementsso at the end of the day, that $5 million building might actually wind up costing closer to $7 million or more in our hypothetical example.

An experienced and dedicated church lender can be a great resource in both of these areas.

Mikes: A church needs to make some informed assumptions about its growth and how that might affect the amount of debt it wants to take on. They need to decide if they can build based on a level of indebtedness that is going to be serviceable only if they realize significant growth. Or do they want to build/borrow more conservatively based on historical cash flow?

WFM: What other pieces of advice do you have for churches taking on debt to finance major projects?

Turner: Take into account the total costs involved in funding a capital project, which includes, but is not limited to, items such as closing costs, interest, and/or the cost of capital campaign counsel. Capital campaign costs will typically be significantly less than completely financing your project through borrowed funds.

Van Winkle: Never take on a level of debt that diminishes your church's ability to do the ministry God has called you to. Sometimes the best course of action when a ministry is considering a loan for expansion is to wait.

Talk with people at other churches similar to yours who have gone through expansion projects. They'll have much to teach you about what to doand what not to do.

Rolfs: Talk to lenders early in the process of developing your project. They want to help you, as well as make good loans; and the earlier you get their input, the more valuable it is likely to be.

And find a reputable contractor to work with. Audition' several of them, and check them out as thoroughly as you do the lenders you are considering. Make sure your contractor is financially sound; and remember that when you sign a $5 million construction contract, you are in effect agreeing to invest that sum with them for a long time (i.e., you want a quality building with good craftsmanship that will last many decades).

Mikes: You never want to eliminate programs and redirect those dollars to debt service. You cannot assume that everybody in the congregation is going to be so happy with a new building that they are not going to notice reductions in services offered to the youth group, singles, and other programs or community outreach.

And, find an experienced church lender. You can easily find a lot of lenders in the marketplace that make loans to churches; but you need to dig deeper, ask questions like, How many church loans have you made?' and Do you have full-time trained staff designated to help me work through the process?' That's when you will be able to separate the wheat from the chaff.

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