Commercial Real Estate Investing
Investing in commercial property may open a whole new area
of financial ventures for the savvy real estate investor.
Opportunities abound in multi-family units, office
buildings, warehouses, retail shops, car washes, laundromats,
mobile home parks, hotels, apartments, strip malls and more.
The obtaining of commercial property financing is usually
more extensive and time consuming than for a residential
loan. Guidelines for underwriting a commercial loan put more
emphasis on the income that the property produces than on
the borrower’s ability to repay the loan. Lenders rely on
the income history and stability of the property to
determine future income. Also considered, although less
important, is the credit history, assets and financial
strength of the borrower.
When applying for a commercial loan the previous two years
and year-to-date financial information concerning the
property need to be considered. This data is put into a
format commonly known as a Pro Forma Operating Statement.
This is probably to most important single document in the
application process. A Pro Forma Operating Statement is the
operating budget for the property which lists the rents and
any other income such as laundry, parking, etc. and also all
expenses from advertising to management fees to utilities.
Your lender can supply you with this standard form and help
you or the seller complete it correctly.
Also of importance to the lender is the Loan to Value Ratio
and the Debt Service Coverage Ratio, (DSCR). The DSCR is how
much of the proposed monthly payment will be covered by the
net operating income as calculated on the Pro Forma
Operating Statement. Lenders prefer to see 100% coverage and
on some properties a 120% coverage is required. On purchases
this determines the amount of down payment required and the
terms of the proposed loan and for refinancing, the
loan-to-value allowed and how much “cash-out” may be
received, if any.
Commercial lending is not regulated or overseen by HUD so
RESPA does not apply. Don’t expect to see your typical forms
such as a standard residential loan application, Good Faith
Estimate or Truth in Lending disclosures. Also be aware that
closing costs may be much higher than residential loans
because of specialized appraisals, environmental reports,
attorney’s fees and other costs for special services
rendered.
There are also loans for borrowers or properties that may
fall outside of the traditional commercial lending
guidelines. They typically require 30% down (seller carry
backs are allowed up to a 95% combined loan-to-value or a
70% loan-to-value if refinancing. Some lenders even offer
commercial “Stated Income-Stated Asset” programs. These
usually have loan limits of $600,000. With a reduced
loan-to-value, credit scores as low as 550 may even be
allowed. No IRS 4506 form is required to be signed. You can
close in the name of a corporation, trust or LLC and
“cash-out” is allowed on refinancing. Fixed rates and ARM’s
are available.
Commercial real estate may be worth exploring and it just
may be one more way to expand your investment and real
estate portfolio.
Preliminary Due
Diligence Checklist:
■ Financial
records:
- Annual profit and loss statements (P&Ls) past 3
years minimum (5 years preferred)
- At least one year monthly P&Ls (preferably two
years)
- Balance sheet (3 years)
- Rent Roll including term, deposit, and payment
history
■ Tax
returns- 3 years
■ Insurance:
Insurance Policy; including all riders, risk assessments,
and disclosure affidavit for carrier
■ All
Existing Loan Documents: including notes, deeds of trust,
closing statements, title policy, rate riders, etc.,
and contact names and numbers.
■ Deed
■ All
Leases: entire copies plus any addendum or riders.
■ Any
service or advertising contracts: (Trash, extermination,
maintenance, management, commission agreements,
union agreements, vending, billboard, pay telephone,
etc. and any instrument or contract to be assumed
by Purchaser)
■ Copies
of all recent appraisals, engineering reports, environmental
reports
■ Survey
(as-built), legal description, architectural and engineering
plans and specifications
■ Payroll
register: List of employees including name, position, wage
rate, and entitled benefits
■ Business
license
■ Physical
inventory of furniture, fixtures, and equipment, and
supplies.
■ Utility
bills: Water, Sewer, Gas, Electric (at least two years of
monthly statements)
(or recap report from provider showing usage and cost)
■ Bank
statements showing deposits for last twelve months
(optional)
■ Phone
system documents (y2k compliance letters)
■ Computer
systems (y2k compliance letters)
■ Fire
System inspection reports and y2k compliance
■ Property
Tax tickets for the past three years (real estate and
personal)
■ Litigation
History: details of any past or pending litigation (if none,
then affidavit from owner)
Comprehensive Due
Diligence: Pre-Closing
■ Engineering
Inspection and Survey
■ Environmental
Inspection and Survey: Key Issues: Asbestos, Lead Paint,
underground tanks, wetlands
■ Environmental
Phase One: An Environmental Phase One (1) Assessment is an
inquiry conducted to determine
the environmental status of a property or facility in
connection with a real estate property transaction. It
follows
standards which includes those published by ASTM.
■ Environmental
Phase Two: Assessments/Subsurface Investigations: These
projects include but are not limited to
subsurface drilling and sampling, monitoring well
installation and sampling, ground penetrating radar, and
asbestos and lead sampling.
■ LUST
Survey - Leaking Underground Storage Tanks
■ Financial
Audit
■ Title
Search and policy
■ Property
tax verification
■ Tenant
Estoppel Letters
■ Mortgage
Estoppel letters
■ Legal
Verifications: licenses, permits, zoning
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