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:
Debt Coverage Ratio
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
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.
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.
Loan to Value
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.