Owner Occupied Commercial Mortgage Refinance

By: jeff rauth

Business owners currently considering a commercial mortgage refinance, will find that many of the rules have changed. As the economy and so called credit crisis continue, small balance lenders (loans between $300,000 - $5 mil) are scrambling to reset their guidelines while not denying every loan that comes across their desk.

"Back to basics" seems to be the rule of the day. As little as one month ago, commercial lenders were still "cranking out" untraditional programs such as stated income loans, interest only and second lien position loans. Although not completely gone, these programs have been seriously altered. Business owners will need to have their books, value, and credit in line, in order to receive good finance options.

DCR

The Debt Coverage Ratio is a tool capital sources use to asses if a business can afford the mortgage payments of proposed loan. Typically lenders want to see a ratio of 1:1.20. Meaning the business, would have $1.20 of net income vs. $1 of proposed mortgage debt. So, if the business had a 1:1.2 they would still have $.20 left over after all debt and expenses were paid.

This ratio becomes critical in difficult times. It has in impact on commercial property value and as mentioned above, what a business owner's can qualify for. Most capital sources are now ratcheting up this ratio to a 1:1.3 and with some special purpose properties to 1.4's (like hotels). As a reference point this ratio was as low as 1.1 with many aggressive lenders just a few months ago.

In addition, less obvious underwriting standards, such as increasing vacancy and management fees have a direct impact on net income. Many lenders are raising these underwriting guideline from 3% to 7%. In areas like Phoenix for example, some underwriters are using market vacancy vs. a the standard 5%, which can seriously effect a transaction if market vacancy are, for example 12%. Keep in mind that this vacancy will be factored on to the deal, even if the subject property is 100% occupied at the time of the refinance.

This tightening has its biggest impact on businesses that are highly leveraged and or very tight on cash flow. Borrowers facing a ballooning loan that a borderline, will have difficult time coming up with options.

LTV

Loan to values, as in the difference between what a property is worth vs. what is owed, is another key ratio to reduce risk for banks. The normal high side for the typical owner occupied property, such as office, industrial or retail, is 75%/80% on a refinance. This is being dropped pretty much across the board to a max of 70%.

Special purpose properties, such as, restaurants, automotive, hotels, daycares, etc are taking the brunt of it, as many lenders will not lend beyond 60% loan to value. Many lender have simple stopped lending on these properties all together.

CREDIT

Personal credit scores are becoming an all too easy way for banks to quickly and efficiently say NO to a deal. 680 is now the new 640. It's not to say that there are no decent lenders that will look at deals below 680 but the file has to have strength on it to augment the weaker credit score.

GLOBAL

The Global Income ratio effectively computes all income (both business and personal) vs. all expenses (again, both business and personal) that the entrepreneur has. 50% to 60% has been the norm for years, now more and more lenders are demanding 40%.

Beyond the underwriting rules that are becoming more strict, there's seems to be a general confusion among banks as to what actually fits their criteria, and or a "wait to see what happens" mentality. This can be especially frustrating for business owners as most would prefer a quick yes or a no, rather than being dragged out due to confusion.

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