Finance: Readers Ask, Experts Respond
Hundreds of thousands of jobs lost in the past several months. Banks teetering on the brink of insolvency. And there’s little indication that any kind of relief is on the way for the nation’s ailing economy.
How do these conditions affect a church’s ability to raise funds? How is lending for church projects being affected? Are new capital campaigns absolutely out of the question—and if not, what does a church need to do differently?
To get the answers to these and other questions we’re hearing from readers of Worship Facilities Magazine, we’ve pulled together a team of experts in the world of church project financing. They are Mark Johnson, executive vice president and head of the Ministry Development Group for Brea, Calif.-based Evangelical Christian Credit Union (ECCU); Dan Mikes, executive vice president, Church & Educational Institution Division, Bank of the West, in Walnut Creek, Calif.; Scott Rolfs, managing director of the Church and School Financing Division of Ziegler, a Chicago-based financial services firm that specializes in church lending; and Allen Walworth, Ph.D, president and principal of Generis Partners LLC, an Atlanta-based church fundraising/capital campaign consultant.
Here’s what they have to say:
1) “With all the changes taking place in the financial industry, how are church loans being affected when it comes to loan-to-value (LTV) ratios, interest rates, and other terms?”
Rolfs: Loan financing for church projects is still available, but the business plan presented to secure the loan must be very strong. This means that your loan and project need to be well-thought-out, with a demonstrated strong need. Your borrowing plan also needs to prove your ability to repay the loan without relying on massive future growth in the size of your congregation—because in today’s economic environment, lenders are skeptical that exponential future growth in attendance and revenues will materialize.
Johnson: Interest rates for the limited amount of church financing that is available today have increased somewhat. Underwriting standards appear to have tightened broadly as well. Many lenders are more likely to require more conservative LTV ratios—probably not to exceed 70%t in most cases.
Mikes: LTVs are generally unchanged; however, some lenders may be tightening other ratios. For example, required income-to-debt and debt-coverage (available cash flow to proposed debt service) ratios may be more conservative.
At the same time, while spreads in pricing equations have increased, the ‘all-in’ rate for qualifying borrowers is currently very low by historic standards. Churches with existing debt should pay attention to this opportunity, and refinance their existing debt.
2) “I’m bombarded with advertisements for church construction financing—some saying bonds are better, others touting bank loans. What is the ‘Financing for Dummies’ summary of the two options?”
Mikes: The interest rate on the bank loan is typically lower. Banks offer variable, adjustable, or fixed rates up to 10 years. While the monthly payment on the bank loan may be based on 25-year amortization, the loan matures (balloons) at 10 years.
A bond offering provides the borrower with a long-term fixed rate and a fully-amortizing 20-25 year loan—but the up-front costs associated with bonds are significantly higher than those of bank loans. These costs can be viewed as the price for eliminating the uncertainty of the future availability or pricing of bank financing by securing a longer-term product. However, if your church ends up pre-paying the bonds or refinancing them, perhaps in conjunction with another building phase, you will have paid for something you didn’t end up using.
Rolfs: Both have their strengths and weaknesses. Long-term fixed rate bonds come with higher origination costs, but allow you to ‘purchase’ the money for a 20- or 25-year period with no worries about the rate changing or the loan coming due. Bank loans have lower origination costs—but come with the requirement of refinancing the loan sometime during the first five years. And some borrowers are now learning the hard way that many lenders aren’t able to ‘roll-over’ the five-year loans they put out in the 2003-2004 period.
If your church has a major pledge drive under way and expects most of the borrowed funds to be paid back in short-order, a bank loan can be more cost effective. If you are not confident in the ability to pay back the entire debt in the first three years, or are concerned about interest rates rising in the future, you should examine the bond option.
Johnson: Each offers advantages and disadvantages, depending on the ministry’s financial situation and objectives. The better question today for a ministry, however, is whether now is the right time to be borrowing money.
For a lot of reasons—including extreme economic uncertainty, the financial challenges faced by an increasing number of donors, the possibility that financial resources might be better used to meet other needs at this time—it may make more sense to wait.
3) “How do I determine what our church can afford? Financers tell me what my borrowing limit is, but I fear the monthly payment on that debt is more than we can handle.”
Johnson: We encourage churches to avoid taking on debt that might hamper pursuit of your mission or diminish your ministry’s kingdom impact. The old rule of thumb—that a church can prudently handle debt of approximately three times its annual income—probably still applies in most cases.
Each church’s situation is unique; and in such uncertain economic times, maintaining adequate liquidity becomes an even greater priority.
Rolfs: Talk with a number of different lenders to find out the maximum they will loan you. You’ll be surprised at the variations you might hear. And odds are that the middle ground number among the answers will be a good figure to start with.
Mikes: Given all the recent headlines about struggling churches and church foreclosures, this is clearly the most important question a church asks itself—and it should not proceed to borrow until [it is] confident about the answer.
Many lenders have been far too simplistic in using canned income-to-debt guidelines to identify borrowing capacity. Another common mistake over the past several years has been to borrow based on lofty projections of growth. Many churches that did this are now in trouble.
They would have been much better served to look at the cash they actually had available for debt service in the past few years (net income plus depreciation plus interest expense plus capital and other non-recurring expenses), and based their long-term borrowing accordingly. When a recently implemented capital pledge campaign is in play, near-term borrowing can be slightly higher, as a portion of the uncollected pledges can be bridged with some additional debt.
4) Is now the time to start a capital campaign? What are the prospects for success in these economic times? Is it “insensitive” for us to even be thinking about a campaign?
Walworth: In practical terms, today’s economy requires churches undertaking capital campaigns to conduct more due diligence/in-depth study of their donor base, based on how much it is trying to raise.
Generally speaking, if a church wants to raise 1½ to 2 times its annual budget in a campaign, it can probably do that successfully with their non-major-donor base—the wage-earning members of the congregation that cut back on going out to eat, take smaller vacations, and take other steps to make room for giving from their monthly income.
When a church is trying to raise more than two times budget, it is more reliant on major donors, typically a small number of people with extraordinary financial capacity. It is this group that will generally carry a campaign beyond 2- to 2.5-times budget mark.
If your upcoming campaign is going to depend largely on this group, you want to check in with them well beforehand. Their giving is typically in the form of gifts of appreciated asset (traditionally stocks, land, etc.)—and in today’s economy, those gifts may just not be there, or they may be much less than they were a year ago.
Regarding insensitivity, if you are located in an area where there has been massive layoffs, starting a capital campaign now could be considered insensitive. But bear in mind that if a church is doing something that is really powerful, needed and wonderful, it is not insensitive to invite people to be a part of it.