Capital Market Trends for the Seniors Housing & Care Property Market
- What are the trends for property development costs?
- What are the trends for lending and loan performance?
- What are the trends for property sales transactions and cap rates?
- What are the trends for property investment returns?
What are the trends for property development costs?
Property development costs for senior housing tend to follow similar trends of other major real estate classes. Seniors housing development costs are most similar to multifamily residential and 3-star hotels. Construction costs vary from city to city. Over the period of January 2019 to April 2020 national averages construction costs had a lower decile of $158 per foot to an upper decile of $452 for seniors housing according to research from JLL Valuation Advisory. For skilled nursing the lower decile was $232 and the upper decile was $538. Additional cost data from JLL Valuation Advisor is available in Section 8 of the Sixth Edition of the NIC Investment Guide.
There is a wide range in construction costs between different types of seniors housing and care properties based on the target market, the amount of common area space, quality of the buildout, and different building code requirements.
What are the trends for lending and loan performance?
In recent years, debt capital, in general, has been abundant but some lenders have become more conservative in select markets due to risks of overbuilding associated with new construction and other factors, e.g. labor availability and rising wage pressures especially prior to the COVID-19 pandemic. Since the pandemic, GSE underwriting standards have become more conservative regarding loan-to-value (LTV) requirements and minimum debt service coverage ratios (DSCRs).
HUD financing continues to be a consistent source of long-term, non-recourse financing, in particular for nursing care properties, which are not eligible for Fannie Mae or Freddie Mac financing. Historically, HUD’s underwriting criteria call for a minimum DSCR of 1.45x, but COVID may have changed this requirement. Traditionally, maximum LTVs vary by program and include 80% LTV for the refinancing or acquisition of a for-profit assisted living, memory care, or nursing care facility (85% LTV for nonprofits).
Commercial bank financing is available from most national and regional banks, and many local banks who are active in seniors housing lending. Lending terms vary considerably among banks. Some pricing has been driven lower and leverage has been higher in recent years as banks were aggressively competing for lending opportunities. However, more recently, some banks have been slowing their construction lending activity or tightening their terms in response to bank regulatory changes and concerns about overbuilding. The pandemic slowed lending activity dramatically.
Tax-exempt financing (bonds) was created for affordable housing, but some for-profit borrowers have used this provision to access the tax-exempt markets, providing more liquidity in this particular financing market. Tax-exempt financing for senior living has seen an increase in activity as borrowers issued debt under the provisions of section 142(d) of the Internal Revenue Code.
What are the trends for property sales transactions and cap rates?
Property sales transaction volume was strong prior to the pandemic with a strong deal count. Dollar volume is consistent although far from record highs as there are less large portfolio deals closing as of late. Institutional interest in the sector has risen in recent years due to the sector’s favorable investment attributes, although they have found it challenging to put capital to work given the high prices in the market. Private buyers, e.g. smaller equity funds and partnerships, have been very active in the sector. The favorable attributes investors see include desirable demographic trends, compelling investment returns, growing transaction volumes and liquidity in the sector, rising transparency and understanding of the sector, and emerging post-acute care coordination opportunities.
Of the three seniors housing property types, independent living and assisted living properties generally have lower cap rates due to an increased amount of revenue related to real estate as opposed to services. Nursing care properties generally have higher cap rates because a significant amount of their revenue comes from government reimbursement through Medicare and Medicaid. This income stream is viewed as slower growing and more at risk to budgetary pressures compared with private pay revenue.
What are the trends for property investment returns?
Seniors housing and care is the only commercial real estate asset class that experienced positive asking rent growth during the Great Recession. Rent growth has been steadier, less volatile, and has generally exceeded that of other commercial real estate property types.
Senior housing has a unique resiliency in the commercial real estate market as a result of its dual components of real estate, hospitality and need-driven services. The NCREIF Property Index (NPI) had a total investment return of 9.4% for the ten years ending in the third quarter of 2020. Seniors housing returns compare favorably to this overall index, with an 11.6% annualized investment return over the same period. Returns for both income and appreciation were higher for seniors housing than the overall property index as well as for multi-family.