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Expert Tips on Debt Capacity Analysis

How much debt can your congregation safely take on for that new facility?

Part art, part science, debt capacity analysis, i.e., the process of figuring out exactly what this amount is for a given church, has assumed new importance in the worship community, thanks in large part to the financial-bubble/credit-market-collapse of 2008-2009.

Indeed, until very recently, U.S. churches have been behaving much like the American consumer in general, according to Kregg Hood, senior vice president of AG Financial Solutions, a nonprofit financial services organization based in Springfield, Mo., that provides financial solutions for the growth and development of ministries of the Assemblies of God.

“Their goal seems to have been to see how much they could borrow, rather than looking at what they could truly afford,” says Hood. With real estate collateral values rising, many pastors have seen no problem in taking on additional debt for new projects, he notes, “without taking into account what might happen in the event of a slowdown in attendance or giving.”

Meanwhile, the high cost of construction over the past 5-10 years has forced a number of churches to borrow even more than they perhaps would have liked in order to build their buildings, according to Scott Rolfs, managing director of the Church and School Financing Division of Ziegler, a Chicago-based financial services firm that specializes in church lending.

“We’ve also seen a trend among the larger megachurches to build and equip large campuses,” Rolfs reports, “with the end result being that some of those organizations are a bit more leveraged than smaller churches.”

Who and When

Is your church carrying too much of a debt load? Or is there room for another loan for some worthy capital project? Finding the right answers to those questions is the meat and potatoes of debt capacity analysis.

You can hire an accountant and other financial professionals; or, better still, check with a church lender.

The problem with hiring professionals to consult on debt loads is that many of them do not have the requisite significant experience of a church lender, Rolfs says, “and most are simply trying to help the church obtain as much money as possible since consulting fees are related to the size of loan obtained.”

Talking with lenders is best, Rolfs notes. “By and large, lenders are experienced as to whether or not a certain loan structure and size will work for a particular ministry—they have to be sure about these things, as they have the most to lose if a loan proves to be too large.”

The best time to begin the debt capacity analysis process is in the earliest stages of planning a new facility, according to Dan Mikes, executive vice president in charge of the Church Banking Division of Bank of the West in Walnut Creek, Calif.

“You need to start the process even prior to engaging an architect to do a project concept,” says Mikes. “By the time you get to the point where you are thinking of concept and square footage, you need to already have a sense of what your borrowing capacity is.”

The Rules

According to Mikes, the general rule of thumb is that a church’s total indebtedness can be in the neighborhood of three times the previous year’s total contributions (tithes and offerings).

This multiple can be higher, he notes, “if the church appears to be well-positioned to absorb additional debt.” That judgment is based on the church’s historic cash flow, Mikes explains, adding, “Churches are charitable organizations and don’t exist to amass significant levels of undesignated liquid assets; accordingly they tend to spend just about everything they take in. So the question ultimately becomes, ‘If you have no debt this year, and take on $10 million next year, how are you going to adjust your budget to accommodate all this debt service?’”

AG Financial looks at existing debt service, operations expenditures and salaries in analyzing whether a church is ready to take on more debt, according to Hood, who also notes that this type of analysis is “really just as much an art as a science.”

“Normally, if a church is already spending more than about a third of its budget on debt,” Hood says, “they are probably going to have to squeeze in other areas—by pulling back on operations or by cutting salaries, which is very difficult to do.”

Keeping debt to a minimum is a key in successfully competing for grants from the more than 50,000 foundations in the United States that fund facilities and programs for religious organizations, according to Jeffrey Rodman, president and CEO of Here-4-You Consulting & Grant Writing, based in Front Royal, Va.

These foundations, a number of which provide monies based on mission and/or denomination, can fund construction and renovations of multi-purpose, youth center, school, auxiliary and other [buildings that are not] specifically worship facilities, Rodman says. And debt management can be an important selection criterion.

“The grant process tends to favor organizations that have developed and implemented a successful debt management strategy,” says Rodman. “These organizations typically carry a lower debt load, are not totally dependent on offerings and tithes, and not too tuition-dependent—but instead have a diversified funding base for keeping themselves out of debt.”

Those churches that get over their heads in debt have a number of courses of action open to them.

“The best thing to do is talk to the lender. Perhaps they can provide you a period of interest-only payments, as opposed to requiring full principal-and-interest,” Hood advises. Alternatively, a church can attempt to pay down the existing mortgage through increasing stewardship, “eventually freeing up money used for mortgage payments for ministry.” Churches can also seek to refinance their original loans by qualifying for a lower-rate loan.

The Loan Scene

There has been no real change in the availability of debt for churches seeking smaller loans, usually well under $1 million, according to Hood. At the same time, “There aren’t that many church lenders approving big loans these days; we know several that have gone out of business.”

There are still a few church lenders that are very much “open for business” and closing loans regularly, adds Rolfs, “and the key to getting loans is for the church to have realistic expectations as to the amount of money they can borrow.”

During the 2003-2008 credit bubble, there was simply too much money in the system chasing loans, Rolfs explains, “and as a result, churches developed unrealistic expectations as to the percentage of a new project that could be funded with loan dollars.”

Ministries need to scale back their expectations, adds Rolfs. “The best advice I have for them is to bear in mind that just because a similar-sized ministry down the road received a $10-million loan for their new building in 2007, doesn’t mean that their ministry would qualify for the same loan today,” he closes.

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