Texas Drives Nearly One-Third of Multifamily Loan Distress

A recent surge in troubled multifamily loans has put Texas in the spotlight, despite the sector typically playing a minor role in overall CMBS distress.

By the numbers: Of the 24 multifamily loans transferred to special servicing in May, 10 were located in Texas. Over the past year, 37 of 120 multifamily loan transfers—or 30.8%—were tied to the state, with 29 occurring in the last six months.

What's driving the distress: Morningstar said the concentration of troubled loans appears to be driven more by borrower-specific issues than by Texas market fundamentals. The factors behind the transfers are only loosely connected to geography.

Borrower-related challenges: A bankruptcy involving sponsor Rao Polavarapu contributed to at least five loan transfers. Another five loans encountered trouble after failing to secure tax exemptions and missing required principal paydowns.

S2 Capital under pressure: Seven of the Texas loans are linked to S2 Capital as the firm works to strengthen its REIT through a capital call. The company has reportedly raised $30M toward a $70M target and may need to sell assets if additional capital is not secured.

Performance concerns: Morningstar's review of 13 S2 Capital properties in special servicing found that none achieved their original underwritten net cash flow projections. The report suggests operational performance, not just financing conditions, has contributed to the stress.

➥ THE TAKEAWAY

Stress test: Texas' growing share of multifamily distress appears to stem largely from sponsor and asset-level challenges rather than broader market weakness. Still, the trend raises questions about whether aggressive investment and underwriting in high-growth markets could create more trouble spots ahead.

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