I like commercial real estate...I think? Right dad?

Greetings from the big town of Albuquerque, NM.  Today, I am in the “big” town attending my son’s (Colt) swim meet.  It is an all day event with the sun looking to disintegrate.

My son loves to compete and loves to compete in anything.  Football practice starts next week and he can hardly contain himself.  I love his passion and he loves the fact that I share his passion….so he says.

By the way….

I really hate the banner picture above.  Yes..the one stretching out my arms.  My investing partner Emily likes it and wants to keep it….I am on the flip side and would love to find something else.  let us know what you think and help me convince Emily to change it….lol.

Anyway….

Today’s topic and the topic for the next few posts has to deal with financing commercial properties.  In today’s market, this is no small feat.  Luckily….creative financing is coming back with a vengeance due to the tightening of the credit markets.

So…..

There are several aspects to obtaining financing for the acquisition of a commercial property. This post will focus on the duties of an underwriter and outline this person’s crucial role in the commercial lending process.

What is underwriting?
According to investorwords.com, underwriting is the process in which a lender determines a whether the party seeking the loan is creditworthy enough to receive the loan. Typical lenders for commercial loans include banks, commercial mortgage banks or insurance companies. Previously, lenders would grant loans based on that lender’s internal credit policies and guidelines. Often these policies would include evaluating the loan request on its merits and then balancing whether the lender’s own portfolio would be suffer an adverse effect by the granting of the loan. Adverse effects included other similar area properties, saturation of that type of property in the portfolio and delinquencies.

Commercial Lending Today
As more investors entered the market, the demand for new types of underwriting guidelines rose. This led to new types of credit analysis; many of which are used for standard underwriting guidelines today. The following information will give a brief description of each.

Loan To Value (LTV)
Loan to value is the ratio of the fair market value of an asset to the value of the loan financing the purchase. This will also predict whether potential losses due to nonpayment may be regained by selling the asset. Commercial lenders are more conservative than residential lenders in that most require the buyer pay at least 20% of the purchase price when applying for the loan. While you can multiply the purchase price by the LTV percentage to calculate the mortgage loan amount, you will also need to factor in the appraisal. If the appraisal is for a lower amount, the loan will only be given for the lower amount.

Credit Worthiness
Credit worthiness is the measurement of whether a party will be able to pay debts. Credit worthiness for limited liability companies is usually determined by the credit histories of the principals as well as analysis of supplied income documents. Owner-occupied property acquisition loans generally examine the personal credit of the principals.

Debt Service Coverage Ratio (DSCR)—Cash Flow
DSCR, or debt service coverage ratio, is an in-depth look at the to-be-acquired cash flow. This cash flow must be able to cover current obligations as well as the potential loan in order for the loan to be granted. The ratio generally needed for a loan to be granted is a 1.20x. This means that for every dollar of debt, the property generates $1.20 in cash flow to support the payment.

Property Analysis
When analyzing a property, underwriters look to what a reasonable tenant would pay to rent space from a similar building in the area and the price a reasonable buyer would pay that an reasonable seller would accept for a similar property in a reasonable time.

After the analysis is complete, the underwriter recommends to the lender whether granting the loan is in the best interest of the lender.

More to come!

Until next time…..rob