Navigating the Art Loan Biz, A Surging Industry Attracting Both Big Banks and "Loan-to-Own" Sharks

Navigating the Art Loan Biz, A Surging Industry Attracting Both Big Banks and "Loan-to-Own" Sharks
A growing number of wealthy individuals are turning the art on their walls into cash via art loans.
(Illustration by ARTINFO)

"22% of the private banks surveyed currently offer advice to their clients on using their art as collateral for loans. 33% of the private banks said it was very likely or likely that they would offer art lending as part of their private banking service platform in the next two to three years. 78% of the wealth managers said that the problem of valuation and difficulties assessing the downside risks were the biggest hurdles against offering these types of loans."

2011 Deloitte Luxembourg Report on the Art Market

 

Credit is tight, but money still courses through the art market. No wonder, then, that the art-rich and cash-poor might think about posting a Carvaggio as collateral for a loan. The art lending market currently stands at about $7 billion, estimates Michael Plummer of Artvest Partners — but just because you own a masterpiece (or even a mediocre work), doesn't mean that you can waltz into your local bank branch and take out a loan. It is going to be a very difficult or a very expensive process, depending on how many other assets you have to fall back on, and there are all kinds of pitfalls that come into play when the loan sharks meet Damien Hirst's "$12-million stuffed shark." 

If you type "art-backed lending" into Google, the first (sponsored) hit that comes up will likely be for a London-based company called borro (pronounced "borrow"), which has just opened a branch in New York. If you click the link you will find a lively website that offers short-term loans backed by a variety of SWAG-type assets: art, jewelry, gold, wine, watches, etc. There are happy testimonials from those who have secured a loan from borro, and lots of photos of smiling people.

If you dig a little deeper you will find that the loan term is approximately six months, and that a loan through borro carries a 2.99-4.99 percent interest per month. Company CEO Paul Aitken clarified for ARTINFO that while these are the rates for many luxury assets that the company lends against (including baseball memorabilia), fine art loan interest rates are as low as 2.49 percent per month. Still, since loan rates for things like houses and cars are generally given on annual terms, 2.5-5 percent works out to 30-60 percent annually. Compare that, for example, to hedge-fund manager and collector Michael Steinhardt's sub-3 percent annual rate on an art loan from J.P. Morgan last year, which he used to finance a lucrative real estate development

NAVIGATING THE WATERS

Like most things in the art (and finance) world, you have to have money to make money, and for those without significant capital to back up their art holdings, not all loans are created equal. Unless you have a collection worth $200 million, a balance sheet that goes significantly beyond that, and a good relationship with one of the private banks that are increasingly offering art loans as part of their service packages, you are unlikely to secure the kind of rate Steinhardt took advantage of. You are more likely to end up paying 44 percent to Art Capital Group, as photographer Annie Leibovitz notoriously did after using her own photographs as collateral. But in the right circumstances, are art loans worth it, anyway? Only if you do your homework.

"There are one or two asset backed lenders [with lower rates] … but it's kind of tough finding them," Plummer told ARTINFO. The rest, he said, are either charging usurious interest rates upward of 20 percent on a short-term loan while holding on to your assets — like a luxury pawn shop — or are pursuing what is known in the biz as a "loan-to-own" strategy, betting that the borrower will default and that they can take the art and sell it at auction. For the shrewd businessman, this could be a particularly attractive strategy. Because of the volatility of art market prices, most lenders will only loan 50 percent of what an auction house low estimate for the value of the work would be (what is known as a 50 percent loan-to-value ratio). Consequently, if the lender sells the work at auction after a default, they are likely to make a hefty profit.

Aitken, however, argues that borro is a step above the average "luxury pawnshop," fitting rather into the more respectable "personal asset lender" category. Even though the company's fees are high, Aitken noted that only 10 to 15 percent of clients default on their loans, and when they do, the company usually waits a few months before selling the assets in case the client comes through with the cash. Once the assets are sold, borro takes what it is owed and gives any profit above that back to the client. "As with any business, it is easier to keep a customer than find a new one," he said. The other upside of short-term lending, he pointed out, is that a customer that manages to pay off a loan in three months only has to pay three months of interest.

A GROWING BUSINESS

In art economist Clare McAndrew's book "High Art and High Finance," the head of Citi's art advisory service, Suzanne Gyorgy (interviewed by Art+Auction's Judd Tully on this very subject in 2009) contributes a chapter on art loans. In it, she lists several reasons that her private banking clients might want a loan. They include "'cashing in' on the increased value of a work without selling it," gaining liquidity without paying the capital gains tax of an artwork sale, using loans backed by art to acquire other artworks (therefore keeping their collecting separate from their other business activities), and using art loans to secure real estate for development (as Michael Steinhardt did).

There has been a real uptick in these kinds of high-end bank loans. In addition to the Deloitte report quoted above, art lawyer Stephen Brodie at Herrick Feinstein told ARTINFO that his firm was currently working on six different art loans, and consulting with many banks on how to get into the art lending game. The most serious problems that banks come up against is securing rock-solid provenance and authentication for a work before making a loan, which is part of the reason why they require other forms of collateral (other assets you might have. But even with this problem, art loans have been on the rise since after the financial crisis, as many people feel that art has held value better than equities and real estate. Still, when taking out an art loan through an average bank, a borrower will be required to have impeccable credit and post other forms of collateral — the banks lend against a customer's entire balance sheet, including equities and real estate — rather than just pledging a few Picassos.

But high-net-worth individuals aren't the only ones that are increasingly trying to secure art loans. According to Aitken, borro counts many small business owners as clients. "We had a customer who borrowed $250,000 secured by high-end fancy yellow diamond jewelry to put into her business. She had just received a big order from China and needed working capital to complete it," he said. Of course, on the more desperate end of the art loan spectrum, there are the three famous "D"s: death, divorce, or debt. In that situation, it may be better to go the more traditional route and head to auction.

"When you are at that level of need that you are willing to pay that much [30-60 percent] in interest, you are now eating into your principle, so you might as well sell the work of art. You are better off taking it to auction and selling it," noted Plummer. Auction houses are in the business of helping people unload their precious works, and they are competitive(ish), so they offer various forms of financial help if you know what to ask for.

NEW YORK — THE ART LOAN HUB

New York has emerged as the hub for art loans, not all that surprising considering it is a hub for both the art and finance worlds. But there is a more bureaucratic reason that so many loans get finalized in the Big Apple: It's called a Uniform Commercial Code (UCC) filing, and it allows borrowers to keep the art securing their loan on their walls. A UCC filing is a legal document that allows the bank to ensure that they will be allowed to seize the artwork if the loan isn't paid back. Essentially, once a UCC has been filed, the borrower cannot sell or move the assets being used as collateral without permission from the lender. As a result, the borrower can keep the art, provided it stays in the same place with the same owner. In contrast, in the UK, Europe, and Hong Kong, there is no version of the UCC filing, which means that any artworks securing loans must be transfered to the possession of the lender — basically, for the term of the loan the art heads to a warehouse (this is how it works with many personal asset lenders, even in New York).

"As you might imagine, it makes for an entirely different economic principle. So, a version of Michael Steinhardt in the U.S. can live with their collection, but in the UK or Europe has to give it up and have it put into storage. That makes for an entirely different dynamic and value equation in terms of borrowing against your collection," said Plummer.

At the end of the day, an art loan can be a big risk, and you have to ask yourself, is your prized Picasso worth it?

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