— by Alexander Conrad —
A recent guest opinion by Ken Wood suggested one approach to increasing the affordability of housing. The [opinion] illustrated how the cost of capital (i.e. interest rates and terms) impact affordability. Comments to the opinion also called for a local organization to step up to provide local home mortgage services. OPAL Community Land Trust is working on just such an approach.
Shrinking access to mortgage finance is a problem that impacts every resident of Orcas Island, not only those seeking to purchase, remodel or refinance their home. Access to capital can drive people away from the island, we are losing neighbors who would otherwise teach in our schools, work in our restaurants, maintain power lines for OPALCO, and construct and maintain our homes and businesses.
Orcas Island is a beautiful place with a healthy community spirit – this is a big part of why most of us have chosen to live here. And, sustaining a thriving community means that we have a local economic ecosystem that makes available housing and other basic services to all residents, new and old.
OPAL is working to establish a local Community Loan Fund designed to enhance our community’s vibrancy by providing access to mortgage loans for people who are creditworthy, but who are currently unable to obtain bank financing.
How will the Loan Fund work?
The Loan Fund will pool funds from local investors, and then loan that money as mortgages to applicants who meet the Loan Fund’s underwriting criteria. The Loan Fund will provide investors with a means to invest locally; all capital raised by the fund will be dedicated to local loans.
Investors will select an impact investment rate of return of between 0 percent and approximately 3 percent. Borrowers’ mortgages will be for a five-year term, but monthly payments will be calculated based on a 30-year amortization. To fund operations of the not-for-profit loan fund, interest rates charged to borrowers will be higher than the rates paid to investors, so that the spread (the difference between interest collected from borrowers and interest paid to investors) covers operating costs. During the five-year term, borrowers will work with OPAL/Loan Fund staff so that they are in a position to refinance with a bank.
How will the Loan Fund provide mortgages to people who cannot obtain one from a local bank?
There are a number of reasons that creditworthy people may not be able to obtain mortgage financing from a traditional bank. Perhaps they have student debt that a bank must consider in their loan-to-value calculations … or a property defined as nonconforming … or personal/business income outside the strict parameters set by traditional finance. Many of these individuals are longtime residents who are valuable members of our community. The Loan Fund will offer an alternative to banks with more locally nuanced underwriting criteria. Local banks support the creation of the loan fund.
But what about cost of capital?
The previously referenced Orcas Issues article correctly identifies interest rates as a barrier – this is often referred to as the cost of capital. The cost of capital is a critical component of all economic activity. For instance, the price of your morning cup of coffee must cover the cost of capital paid by the roaster and the coffee shop for their mortgage or business loans. For home mortgage loans, the cost of the lender’s capital is directly impacted by the cost of compliance with regulations, and by the scale of the lender’s operation.
That is, compliance costs are a large component, such that larger lenders can spread that fixed cost over a much bigger portfolio of loans – thus, the cost allocated to each loan is smaller.
Complying with regulations – which are designed to protect borrowers, lenders, and investors in those lending institutions is compulsory, and it is expensive. Recognizing this, Washington State has established several exemptions for small nonprofit organizations whose operations are accountable to the public and monitored by granting agencies. If the Loan Fund can operate under these exemptions, it will substantially reduce this aspect of its operating costs, which, in turn, will help keep interest rates for borrowers lower.
Furthermore, the Community Loan Fund will never be large by today’s standards, but by being part of OPAL, particularly in the beginning, the same infrastructure that serves OPAL’s existing operations can serve the Loan Fund. We expect that the Loan Fund will be self-sustaining after its initial start-up period.
Sounds interesting; when will the Loan Fund open?
OPAL is in the advanced stages of legal review to obtain the necessary exemptions. This legal review could be completed this year, and, after a pilot phase, OPAL will publish an announcement to invite mortgage applications.
An opportunity to strengthen community
The Loan Fund will offer many benefits to our community. Key attributes include access to capital for borrowers, an opportunity for place-based investing for island investors, and a stronger local financial ecosystem. We hope that in time the Loan Fund will grow to include small business funding, which will help drive local wage and income growth as a result of increasing access to this type of capital. But we must start in a small and meaningful way – community-financed mortgages with a reasonable chance of reaching sustainable scale. Stay tuned for more!
–Alexander Conrad is Project Manager, Community Loan Fund Project, OPAL Community Land Trust–
This is just the kind of creative approach to issues facing out community that makes Orcas such a special place. Great work Alex, and OPAL!
It’s heartening to see OPAL continuing to work at the vanguard of community-centered problem solving for our growing affordable housing challenge. And many thanks, Alex, for this clear description of what I hope will become yet another valuable local resource from and for islanders. The more creative tools we have in our toolbox, the better. And I applaud the focus on minimizing the required compliance costs.
In my view, it has always made a great deal of sense to invest locally. In today’s financial climate with low returns on the conservative options open to seniors, this is especially true. Instead, what is being proposed by OPAL is local decisions based on local knowledge of a borrower’s special situation. This keeps investment money on the island rather than risking it to what are often corporate strategies that are based on assumptions made for markets that are not only different from our own, but which can deny access to capital by our friends and neighbors. We have also seen how the strategies of the large loan organizations and big banks can backfire at the expense of everyone. I especially like the aspect of what is proposed which gives borrowers a chance to make that first step toward home ownership. This proposed program is a great idea and I applaud Alex and OPAL for putting in the work to make it happen.
This is a great example of community taking care of community needs. Simplicity and creativity.Someone once told me, people put their money were their values are. Well, what a great example of community support.
Looking forward to the work of Alex and his entire team at the Community Loan Fund coming to fruition!
Alex – Thank you!
Many of us know the maze (web) of government agencies and ‘rules’ you have successfully navigated to move this project along – so that it will soon ‘breathe’ the life of ‘affordable financing’ into our community.
Well done!
This is a very creative proposal to subsidizing island homeowners’ home purchases but there are some financial challenges with the proposed loan structure. First, the term of the loan is mismatched with the life of the asset, an understandable violation of a fundamental risk management principle which exposes the borrowers to significant reinvestment rate risk at the maturity of the loan.
Second, the interest rate structure of the loan is a below-market rate structure for the credit risk, and as such should be clearly disclosed to investors in the Loan fund who may choose to invest as a philanthropic pursuit. I applaud Alex’s work on this laudable goal.
Hats off to OPAL. Once again, OPAL is moving to fill an important gap in the financial and housing structure of our community to help maintain the affordability of living on Orcas for year-round residents. We are fortunate to have such creative thinking on the island and an organization like OPAL to step into the breach to help hard-working islanders meet their financial needs and expand their opportunities.