By Ellis Carr
This is Part 1 of a 2-part series by Ellis Carr and Joe Neri. Read the introduction.
Supporting deep and transformative change that addresses historic inequities requires us to not only look at our successes, but also our shortcomings as community development organizations.
Take for example our work in Detroit. Between 2006 and 2015, we deployed over $150 million into important projects creating access to much-needed social services. We dug in when the city filed for bankruptcy, and stood shoulder-to-shoulder with residents to support a new path of inclusive growth. By all accounts, Detroit is emerging as a success story with its continued growth. We are proud to be part of that story.
While we could have patted ourselves on the back, Capital Impact analyzed our lending patterns in the city. What we found was troubling.
In a city where 86% of its residents are people of color, we found that only 9% of the money we lent to for- and nonprofit developers in the city between 2006 and 2015 went to projects led by minority developers. We also discovered that, while the capital largely aligned with our goals of increasing density and access to mixed-income housing in the city’s highest-opportunity corridors, a significant percentage went to developers who were not local.
Nine percent. We knew we needed to do better. Simply put, treating symptoms rather than curing the disease of systemic racism and disinvestment does not create the pathways to equitable opportunities for success.
Simply put, treating symptoms rather than curing the disease of systemic racism and disinvestment does not create the pathways to equitable opportunities for success.
And so we took a hard look at the challenges facing developers of color to actively participating in Detroit’s growth and revitalization efforts, and we designed a program that would begin to hack those challenges and address the inequity of capital flows to Detroit developers of color.
We call the program the Equitable Development Initiative (EDI).
Capital Impact started EDI where many CDFIs begin – where we had the greatest control. That is: by expanding the goals of the cheaper, longer term, and more flexible capital we had raised to meet our neighborhood revitalization goals, and directing that capital to be more flexible and useable for borrowers. We also paired this existing capital with a new real estate development training program supported by JPMorgan Chase and other local philanthropy to support local knowledge gain within the real estate development industry.
On the financing front, we are working to adapt our terms to better meet the needs of emerging developers of color in Detroit. As the EDI program itself is constantly evolving, we will be monitoring our lending efforts and adapting based on real-world experiences with program participants. Based on current research and community feedback, we have developed lending guidelines based on these parameters:
- Smaller loans ranging from $150,000 to $2 million. Many minority developers are newer to the industry and starting out with smaller projects. These smaller loan sizes better meet their needs, filling a financing gap for smaller projects that traditional lenders are often reluctant to finance given their scale and risk profile.
- Higher loan-to-value ratios. As we all know, redlining drove down the value of properties in minority neighborhoods for decades. Now, when traditional lenders only make a loan at 70-80% of an already constrained appraised value, the loan size is often too small to cover construction costs. Capital Impact’s typical loan-to-value range was already higher, at 80-90%, but we are working to have our EDI program loansgo a step further – up to 100%.
- Lower debt coverage ratios. Debt service ratios have traditionally been a key part of determining the maximum loan amount. The more net operating income an organization has, the more debt they can take on. But this policy is disproportionately unfair to minority-led developers, who are often newer (and therefore smaller) businesses with less net operating income. Traditional lenders set the ratio at 1.25 or higher. Capital Impact is already lower, at 1.15-1.25, but are looking at ways we can dip to an even more favorable 1.10 for this program.
- Longer-term loans. Traditional lenders typically offer construction loans with terms of 2 years. We are considering loan terms through the Equitable Development Initiative of up to 5 years to give developers more time to stabilize the properties and secure permanent financing.
- Longer amortization. Capital Impact typically offers loans with a maximum amortization period of 25 years. Here again we are working to expand these terms to offer amortization up to 30 years to reduce the borrower’s loan payments, which supports the project’s cash flow.
The combined effect of these features are that eligible borrowers participating in the program are required to put less cash up front. In fact, their required equity contribution can be cut in half – from 10% of project costs to 5% – thus eliminating a major barrier to borrowing funds, easing the cash flow burden during project stabilization, and helping accelerate the pace of development.
But Capital Impact knew that engineering a better product, alone, would not have the deeper racial equity impact we wanted. We knew that if we didn’t address the other capacity, knowledge, and connection challenges, our products would not flow or would not flow for long. So Capital Impact combined its new product with a training and mentorship program.
Each year, the program provides training to up to 20 minority real estate developers in Detroit and supports the development of 1-2 projects led by those participants. The program includes 10-12 sessions based on a curriculum that covers four modules:
- Business/Portfolio Growth
- Detroit’s Planning and Real Estate Development Context
- Multifamily/Mixed-Use Real Estate Development Process
- Real Estate Development Financing.
The curriculum follows a Request for Proposals (RFP) process, employing trainers; panels, tours, workshops, and networking events to bring the curriculum to life. Each program participant has access to one-on-one or small-group mentorship with a local real estate developer.
The 2018 cohort produced a number of successes indicating that the program is already achieving a number of its short-term objectives. One example is our partnership with Ron Bartell to finance his project “Live @ Liv”. This mixed-use development will provide space for new residents and shops along the Avenue of Fashion, a key commercial corridor in northwest Detroit.
These kinds of activities – what you might call ‘capacity building plus’ – are along a continuum that CDFIs must recognize to be truly successful at addressing inequities in lending.
Another promising outcome of the EDI is that it has created a community of minority developers who are interested in working together and helping one another succeed. After completing the program, Alisha Moss founded an organization called Real Estate Association of Developers (READ), which meets monthly to host speakers and provide networking opportunities to local developers. We are excited by these types of new ecosystems to scale access and opportunity.
In its first two years, the program has supported 47 developers – but more than 200 applied. We plan to take applications for a third cohort in the fall of 2019. In addition, we partnered with the Coalition for Nonprofit Housing and Economic Development to host a day-long convening of local leaders in Washington, D.C. to learn about local challenges and opportunities. Based on lessons learned from Detroit and that convening, we solicited applications for a D.C.-based cohort and plan to announce those individuals shortly.
All CDFIs engage in some form of “capacity building,” which is at the heart of the CDFI Fund’s requirement for CDFIs to provide services that mitigate the challenges to accessing capital in our communities. But many programs begin and end with traditional workshops or other learning opportunities – mostly focused on how borrowers can better understand us lenders. Our EDI program goes further, creating a comprehensive support program that connects borrowers with consultants, mentors, and resources that foster learning and connectivity beyond the life of the program. Importantly, EDI is also race-explicit and customized to the very specific lending needs of developers led by people of color.
As my friend Joe Neri explains, these kinds of activities – what you might call “capacity building plus” – are along a continuum that CDFIs must recognize to be truly successful at addressing inequities in lending. By designing programs that are both race-explicit as well as highly customized to reach groups that have been systemically left out of lending opportunities – from traditional lenders and CDFIs alike – we hope to begin to correct some of the lending disparities these groups have faced.