“Show me the money” is the increasing demand of high-net-worth borrowers who want a jumbo mortgage to finance a home purchase — and banks are responding enthusiastically to this wealth management strategy.
In the second quarter of 2014, the number of loans from $1 million to $10 million to buy single-family residences topped more than 15,000, the highest total ever, said CoreLogic, a deep-data real estate analytics firm in Irvine, Calif.
The increase in the number of million-dollar-plus loans mirrors the sales increase in luxury homes and estates. According to CoreLogic, the number of homes that sold for $2 million or more in 30 of the largest metropolitan areas through the first half of 2014 was the highest since 2006. Meanwhile, sales of homes, priced at $1 million or more, increased 8.5 percent in June from a year earlier, according to the National Association of Realtors (NAR).
Ironically, many banks are lining up to respond to the needs and desires of their wealthy clients while tightening lending standards for other borrowers, especially first-time buyers with marginal credit. Indeed, sales involving first-time homebuyers dropped from about 35 percent in October 2008 to about 28 percent today, NAR added.
Contributing to the current stampede by banks to serve the affluent are historically low mortgage rates and a prevailing wealth management mindset among high-net worth clients who recognize the power and profit potential of leveraging other people’s money, in this case, the banks. It doesn’t take a sophisticated Silicon Valley algorithm to figure out that it’s smart to borrow money in the 3 percent to 4 percent range while leaving your portfolio intact to ride the rampaging stock market bull, which charged ahead more than 29 percent in 2013. (Use the handy MyBankTracker.com mortgage calculator to run your own monthly mortgage payment scenarios.)
“Every client represents a unique situation, but by and large given the low-rate mortgage environment, financing makes more sense than self-financing,” said Mat Johnson, an advisor with Perigon Wealth Management in San Francisco, Calif. “It’s probably best to leave your investments intact as they’ll likely outperform the interest you’re paying on your mortgage.”
Open door for the wealthy
Affluent borrowers have found an open door and attentive ear at the Bank of New York Mellon, whose volume of mortgage loans of $2 million or more, including a $7 million refinance for a second home in California, has increased 30 percent from 2013.
“We take an advisory, customized approach with every client,” said Bill Sappington, executive director of Private Banking for the Bank of New York Mellon, one of the nation’s leading wealth management firms. “We’re going to review their assets and liabilities and provide guidance based on their balance sheet. If their investments have been performing well, it probably makes sense to stay invested. They also have the option to pay off their mortgage at any time, so this financing option only increases their financial flexibility.”
Should these high-net-worth clients choose to finance, they often require the help and guidance of a private banker or wealth advisor whose expertise and depth of experience in wealth management strategy run deeper than the usual mortgage lender/borrower relationship.
“Many of our clients draw income from multiple sources,” Sappington noted. “They’re not your typical W-2 employee.”
Indeed, the guiding hand of an experienced private bank can be critical when working with high-net-worth individuals whose financial relationships can be truly complex. Furthermore, the regulatory environment and subsequent demand for better documentation have increased accordingly over the past five years.
“Many CEOs earn a dollar a year, with the rest of their compensation paid in stock,” Johnson said. “Liquidating a particular asset could also trigger certain tax consequences, so many high-net-worth clients require an experienced partner who is used to operating in this complex space.”
Because the size of these jumbo loans far exceed the limits of Fannie Mae and Freddie Mac, which buy loans from lenders and then securitize them for investors, financial institutions like Bank of New York Mellon retain them in their own portfolios. This, in turn, gives the Bank of New York Mellon a free hand to customize products, including interest-only loans that adjust monthly, which meet the unique needs of its wealthy clients.
Matching pricey real estate with luxury loans
Los Angeles has some of the toniest and priciest real estate in the country reaching into the millions of dollars. Buyers, however, especially from places like Great Britain whose currency is strong relative to the dollar, often have the deep pockets to match even the most outrageous asking price.
“A lot of my buyers have assets allocated all over the world,” said Valerie Fitzgerald, a leading West Los Angeles real estate broker serving affluent clients shopping in the $1 million to $25 million price bracket. “They know how to put their money to work in international markets to earn the best return. They’re not going to have $5 million just sitting around in a savings account. So, yes they’ll leverage, especially when interest rates are this favorable.
“Then I have other buyers who might come in with all cash, but they’ll refinance a few years later to pull money out. Their situations are always fluid, and they want their access to capital to be just as fluid.
“It’s just a very intelligent market right now. Wealthy people demand and currently have a lot of options.”
David Offer, also based in West Los Angeles, is the No. 1 real estate agent in the Berkshire Hathaway Home Services network.
“Interestingly, I’ve had clients who are worth hundreds of millions of dollars and they’ll seek out conventional-type financing,” he said. “But usually, their financing decision comes down to a last-minute decision. It’s really case by case. A liquidity issue might push them to refinance. Other times, they simply may not want to touch an investment portfolio that’s been performing well for them.”
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Generally, high-net worth individuals who have existing relationships with their banks can negotiate the best possible mortgage rates, below what’s publicly advertised or quoted. It’s easy for banks to make these concessions as they are already drawing handsome fees for helping clients manage their money.
Typically, the largest banks charge an average of 0.93 percent annually to manage $5 million, according to research firm Optima Group Inc. in Fairfield, Conn. Accounts of $30 million have average annual fees of 0.67 percent. That adds up to $46,500 and $201,000, respectively.
Win-win for bankers and clients
So, there’s enough money circulating to keep everybody happy. The high-net-worth client receives a loan at the very best rate without disrupting his or her investment portfolio, and the wealth management firm or private bank both make a profit and keeps the prized client from running to the competition.
In the end, however, there’s nothing quite like being your own banker. It’s not uncommon, and is indeed becoming the norm, for homes from Beverly Hills to the Malibu coast to sell for all cash offers between $30 million and $50 million. Currently, there are listed homes easily topping $100 million.
Joe Babajian, a real estate agent with Rodeo Realty in Beverly Hills, Calif., said 40 percent of his buyers are local while 60 percent are international, but he said either way the payment is almost always in cash, reducing the amount of paperwork and documentation synonymous with financing deals. Furthermore, all cash offers, he said, can carry more clout with sellers who are weighing multiple offers.
“It’s a very robust and competitive market,” Babajian said. “Most of the financing gets done behind the scenes. The point is, it gets done, one way or the other.”
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