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Underwriting Commercial Loans

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California commercial loans

Underwriting Commercial Loans


Commercial Loans are reviewed and underwritten on an individual basis.  No two buildings are alike, nor are the economic conditions surrounding the building.  Whereas residential loans are generally focused on the borrowers credit and his / her ability to repay the loan, a commercial loan is focused more on the value of the property and/or it's ability to generate an income now and into the future.  The following factors will be taken into consideration by the underwriter:


1. Debt Coverage Ratio 


The DCR is defined as the monthly debt compared to the net monthly income of the investment property in question. Using a DCR of 1:1.25 a lender is saying that they are looking for a $1.25 in net income for each $1.00 mortgage payment. Typically a lender will determine the DCR ratio based on monthly figures, the monthly mortgage payment compared to the monthly net income. The higher the DCR ratio required, the more conservative the lender. Most lenders will never go below a 1:1 ratio ( a dollar of debt payment per dollar of income generated). Anything less then a 1:1 ratio will result in a negative cash flow situation raising the risk of the loan for the lender. DCR's are set by property type and what a lender perceives the risk to be. 




2. Property Analysis

Fair Market Value (FMV) and Fair Market Rent (FMR) will be analyzed. Special use property may require additional underwriting. Age, appearance, local market, location, and accessibility are some other factors considered.  It is extremely important that clear, color photographs be included in the loan package to help a lender get a good idea of the property's appearance and condition.




3. Credit Worthiness

After a lender has formed an interest in the property, the underwriter will evaluate the credit worthiness of the borrower(s).  The credit worthiness of the borrower(s) along with the Debt coverage ratio and the property analysis will help the underwriter determine at what loan to value (LTV) they would be willing to write the loan.  A strong borrower (one with excellent credit) will generally not be able to raise a loan to value because again, the lender is more concerned with the property and it's present and future value.




4. Loan to Value 


Loan to value is the percentage calculation of the loan amount divided by purchase price. Unlike residential lending, commercial loans and commercial investment properties are viewed more conservatively. Most lenders will require a minimum of 20-30% of the purchase price to be paid by the buyer. The remaining 70-80% can be in the form of a mortgage provided by either bank or mortgage company, or a combination of a bank loan and a seller carryback.  The purchase price must also be supported by an appraisal. In the event that the appraisal shows a value less then the purchase price, the lender will use the lower of the two numbers to determine the loan that they are willing to make.  




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