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Cracking the Commercial Property Loan Process for Novices
Have you decided to make the plunge from residential to commercial real estate investing? Or do you just need some space to start or expand your business? Either way, you can bank on commercial property loans to help you in dealing with the massive price tag.
As the name suggests, commercial real estate (CRE) is an income-producing property that can be solely used for commercial (not residential) purposes, such as complexes, hotels, office buildings, shopping centers, retail malls, etc.
Most commercial real estate buyers are experienced at applying, qualifying, and obtaining residential property loans. However, getting a loan against residential property is a walk in the park, but raising funds for a commercial space is a totally different story.
Commercial mortgages have a lot more stern eligibility criteria as compared to residential loans because of the direct effect of economic conditions on the financial status of the firm, a factor that means greater perceived risk for the mortgagor.
Additionally, due to the massive losses suffered by lenders during the Great Recession, banks these days are more skeptical before under writing fresh commercial loans. This brings us to the next question – will you qualify? Well, that largely depends on the following factors:
- Personal History
- Experience
- Credit Score
- Financial Ratios
Even though most loans are non-recourse (no personal guarantees needed) in nature, lenders still need to know who they are dealing with. That makes it imperative to exhibit your entrepreneurial or investment skills w.r.t income-producing properties. Bank statements, CV, etc. are some of the mediums used for this purpose.
The financiers verify every minute detail to make sure you are a credit-worthy individual and will pay back the sum you borrow. If you have any ‘dark spots’ on your records, such as bankruptcy or foreclosure, then it is vital that you come clean with the lender.
Such blemishes on record are rather unfortunate,and you cannot get away from them easily. If you do not mention anything about it and the lender finds out, you might have a hard time clearing up why you chose to withhold such a vital piece of information.
Most lenders prefer to back seasoned chaps having ample experience in managing assets. But if this is your maiden attempt, then you need to have a good team with demonstrated experience in their respective domains to improve your candidature and thus your odds of getting through.
First timers often find it a bit difficult to convince the creditors that they are capable of modeling operating performance as well as dealing with the numerous everyday hurdles that are typically associated with commercial properties.
Lenders hate foreclosures as much as borrowers; the reason being that they are forced to step in and manage the property. After all, they are lenders, not real estate managers. Hence, it is vital that you come off as someone who knows about the operating metrics of the asset class.
Over the years, FICO credit score has emerged as one of the most important benchmarks to ascertain credit-worthiness of a borrower. It is the first thing which mortgage lenders look at every time they receive an application for a residential or commercial property loan.
This is why it is vital that you go through your credit score before applying for a mortgage. In case it turns out to be below the 700 mark, you need to work on it. Clearing old debts and reducing your expenditures are some of the most effective ways of doing the same.
Furthermore, lenders also consider accounting or financial ratios to assess strong & weak areas along with the profitability of a firm. Many proprietors calculate them before submitting an application so that all problematic areas can be taken care of.
I. Debt-to-Asset Ratio
It can be a scertainedby dividing the debt by total assets. The ratio highlights the debt dependency of a business for funding its assets. The lower this ratio is, the better are your chances of getting approved for the mortgage.
For instance, a firm with $100,000 worth of assets and $50,000 in debt is better than the one with assets valued at a million dollars and $750,000 in debt.
II. Debt Service Coverage Ratio (DSCR)
It can be determined by dividing a company’s net operating income (NOI) by its total debt. It is used to evaluate how capable a business is at making adequate revenue to pay off its mortgages.
If a company has an operating income of $100,000 alongside debt of $60,000, then the DSCR turns out around 1.67. This means that the business runs with a healthy excess of 66% revenue over its expenses. Any ratio over 1 is deemed fit by the lenders
The Bottom Line
Make sure you get a hang of the loan process before getting started. By learning how to navigate, you will be better equipped to avail the best loan terms for your firm. This way, you can get the most out of your commercial mortgage and save more capital for your business!
Don’t forget to shop around and ask how various lenders determine approvals. If your search for a commercial property loan is in or around Rancho Cucamonga, CA, then contact us for a free consultation and commitment-free quote!