The Rundown

• Church properties risky when it comes to resales.
• History of capital campaigns, cash flow are scrutinized bylenders.
• CUSOs tend to have very small amount of churchloans.

Come Sunday, pews across America fill with parishioners seekinga spiritual uplift as pastors share sermons to help congregationsmake it through another week.

But for budding preachers with dreams of overseeing their ownflocks, they have to first get past the strict scrutiny of lenderswho are likely leery of originating loans for properties that someexperts see as the most risky type of commercial real estate to beinvolved in.

Yes, commercial real estate. For however churches seethemselves, most credit unions and other lenders still view them asbusinesses. And they are susceptible to the ebbs and flows of theeconomy.

More than 500 Chapter 11 bankruptcy petitions were filed byfaith-based institutions between 2006 and 2011, according toresearch from University of Illinois law professor Pamela Foohey.Since 2010, 270 churches have been sold after defaulting on theirloans and in 2011. Of those, 138 churches were sold by banks,Reuters reported last year.

Credit unions have not been immune to the financial troubles ofchurches particularly during the last few years of the GreatRecession. Dozens of them continue to grapple with foreclosures onboth small churches and large, multimillion dollar megachurches.

Because of their strong reliance on pledges, capital campaignsand other factors, some credit unions and CUSOs keep church loansto a minimum.

“A church is considered a specialized single-purpose building,which is a high risk when it comes to resale and a recapture ofprincipal,” said Kent Moon, president of Member Business Lending LLC in WestJordan, Utah.

Church loans tend to require a higher down payment, and lendersmost likely will provide less financing, Moon added. On otherproperties, financing can go up to 80%, but with churches, thefunding might potentially drop to 65%.

Member Business Lending has reviewed more than 100 churches withunderwriting, Moon said. However, because of their risky nature,the CUSO doesn't keep the loans on its system. One commonality thatbrings sustainability is having a school attached to the church togenerate additional revenue.

“We encourage our client base to not have any concentration ofthese types of properties,” Moon explained. “One of the downsidesof a recession is in commercial lending. On a single-purposeproperty such as a church, getting a sale is very limited.”

For some, the type of church may be a factor when it comes tofinancing.

“Every church lending opportunity should be evaluated on its ownmerits, but we strongly recommend to our credit unions they avoidsmall churches with less than 200 members or independent churches,”said Mike Gudely, president/CEO of Innovative Business Solutions, a Fort Mill, S.C.-based businesslending CUSO.

The reason being is that evangelical independent churches don'thave the financial and administrative backing the mainstreamdenominations do, Gudely said, adding if something happens to anindependent church, they have to go it alone.

“If an independent church has problems it's easier for membersof the denomination to go elsewhere because they don't have ahistory with the church,” Gudely offered. “In many mainstreamdenominations, people were raised in that denomination, have afamily history, and generally stay in the same church, no matter iffinancial issues or leadership issues come about.”

Innovative Business Solutions has six church loans totaling $2.5million, Gudely said. While the CUSO bids on several each year, thetransactions often never get off the ground. The mainstreamdenomination loans are very competitive when the banks getinvolved, he noticed. With the low rates, it's hard to put aparticipation loan together, especially when the CUSO adds in theservicing fee, Gudely noted. hen it comes to underwriting,IBS relies on church loan research in RMA Journal articles, whichprovides a good consistent benchmark, he pointed out.

Next Page: Viability of Cash Flow

The viability of cash flow is a critical factor when itcomes to church loans because they are hyper sensitive to economiccycles, Moon said. A higher amount of patronage during good timeswill produce a strong debt coverage ratio, which is the inverse ofthe loan to value or how many times you've covered your loanprincipal by the liquidation of your collateral. For instance, ifit's a $100,000 loan and the liquidation is $120,000, the debtcoverage ratio would be 1.2%.

Another element that makes church loans risky is their impactwhen a recession hits, Moon said. When cash flow dries up, a creditunion will likely have a high percentage of troubled debtrestructured loans. In May 2012, the NCUA Board approved a finalrule indicating TDRs will be calculated consistently with loan contract terms,rather than requiring past due status to be reported until sixconsecutive on-time payments have been made, among otherprovisions.

“You have to have enough performing assets to cover a high levelof TDRs. A high concentration of church loans in the portfolio willcreate a high number of TDRs and if you talk to any credit union,they'll tell you a church loan is a long term TDR,” Moon said.

There are roughly seven church loans totaling more than $2million in the portfolio at Community Business Lenders in Des Moines, Iowa, said MarkKilian, president of the CUSO. They're local, small in size andnowhere near some of the funding provided to mega churches similarto the troubled Without Walls International Church in Lakeland, Fla. The CUSOhas not had any defaults on its church loans most likely because alist of factors is scrutinized before funding is evenconsidered.

“The type of church becomes an issue based on historic giving,the pastor or pastors, and why attendance has gone from X to Y,”Kilian said. “Doing business locally helps us understand theenvironment and marketplace. Even though it's a church, it's stilla business.”

During the recent recession, the churches that were providedloans through CBL's credit union clients continued to make theirpayments because they were able to generate enough cash throughattached entities such as schools or other centers, Kiliansaid.

In fact, CBL is currently reviewing a project from a church thathas a daycare center, a larger congregation in a growing suburb anda successful capital campaign. Another church is looking to expandto a bigger facility but Kilian cautioned there are some conditionsunder consideration since a larger property means higher operatingcosts.

“It has to go back to the historical financials of the churchand evaluating capital campaigns. Are they three or five years andare there certain givers that represent the total pledge or arethere 20 families who contribute to bulk of the pledge,” Kiliansaid. “All of those factors need to be evaluated.”

Indeed, tithing at many churches takes a hit during a recession,Moon said. However, the quality of cash flow can be determined bythe quality of the pastor, he offered. If he or she has a strongfollowing and is young and vibrant, it's more likely cash flow canremain consistent.

“The average recession last about 36 months. If I'm financing achurch for 30 years, I'm going to probably go through five or sixrecessions,” Moon said.