Newbie Trying A Commercial Deal
I am a newbie at commercial REI, though a have a few residential
Please look at this deal and let me know what you think.
The asking price is 549K, rent roll is 69K and total expenses are 16.5K including allowance for vacancy and maintenance about 20K.
I have about 10% to put down and I am looking for a creative way to finance this property. I have read about asking the seller to hold 10%, but I am not entirely sure what that entails.
Is this the right way to proceed? What is standard interest for such a deal? What are normal terms? Same as commercial financing?
Are there other ways I should be looking to do this?
Any input would be most appreciated. Thank you
[ Edited by eoffiong on Date 12/30/2003 ]
I'm not sure I understand the deal. The $20k is included in the $16.5 total expenses?
Here's how it appears to work out:
$549,000 purchase price
$ 54,900 10% down
$ 54,900 10% seller second
$438,200 80% 1st mortgage
Assume that the seller second is a 30 year am at 10%. P & I = $482
Assume the first is 7%, 15 years for $3,947 P&I.
$4,429 P&I total (not even including T&I)
Now here's where the math breaks down for me, but hey, I may be wrong. $69k of income less $16.5 expenses = $52,500 annually or $4,375 monthly.
It doesn't even come close to covering the debt service. So once the $20k vacancy is put in here somewhere it doesn't seem to be a fundable deal.
Are you sure the rent roll is correct? How would the numbers work out at 100% occupancy?
As for terms of seller seconds, that might be a separate topic to post or search for. There's lots of ways to structure a seller second.
Thanks for the detailed reply. The expenses are 16.5K + an additional 3.5K (for vacancy) to equal 20K. Sorry for the confusion.
The building in question is actually empty in the process of final renovation and the rent roll predicted is actually under-priced about 20-30%, but I would rather do the numbers this way to avoid surprises. The building is in a great area for renters, so I am not worried about the rent roll as much as the financing.
In regards to the financing I was thinking of longer terms, such as 25yr or 30yr which would bring the P& I to about 3K.
Is this a mistaken assumption?
This way the entire deal finances at about 3500 or 42000/yr. Given the potential rent of 69k – 20k -expenses – 42k financing. This leaves me with 7k /yr. Which is about 13 % return on my initial 54k investment. This seems much better than anything else I have seen so far.
Also taking into consideration that everything is relatively new, I can get a much better handle on expenses on this property.
Giving all this? Am I on the right track with this or am I missing something. Thanks
[ Edited by eoffiong on Date 12/30/2003 ]
You would be able to get a 25 or 30 year mortgage on a multifamily not on an office, retail building. D-Man was correct in using 15 years in the above example, you may be able to get a 20 year for a higher interest rate. I know you can get a 25-year loan but the interest rate is not any good.
Work on bringing the seller second's interest rate down.
Also it is common practice for a lender to reduce their LTV by 5% when a seller second is in place. Now the interest rate on the seller second carry’s an even bigger burden on you.
How long do you plan on holding the property?
What type of property are you buying?
What is your credit like?
Can you do a full doc or stated loan application?
Do you have 6 months of cash reserves in addition to the financing costs of $2K-5K, plus closing costs of $2k-$5k?
If you refinance the property in about 5-10 years, then you would be able to refinance the 1st and 2nd mortgage to liquidate the seller second. You property should double in this period of time dependent on your local appreciation values.
Phil
All of my numbers were assumptions. Multifamily properties can get a 30 year full amortizing 80% loan for the high 8s if it is fully documented and the numbers are in order.
Still, even if your first and second were 8.75% for 30 years, the $494,100 CLTV would be $3,887 monthly plus T&I against the $4,375 income. The property still isn't covering its debt. So do you have other income you'd be using to qualify such as from a wage-earner job? Or are you self-employed? Or do you want the property to support itself?
Since the property is vacant my guess is that you'd probably have to take a lower LTV on the first. I'd also be concerned about appraised value.
But please answer the questions just asked in the previous post since there's a lot of unanswered, important items. Also, include taxes and insurance for us.
Phil,
My credit is OK btw 650-680. The building is an 8-unit apt building. I can do a full doc or stated. Yes I can show about 6 months reserves + closing fees.
. I am planning to hold on to this for at least 5-10 yrs or more depending on appreciation in the area.
Here is a detailed breakdown of the expenses
Taxes: 11,039.26
Insurance: 4k
Water& Sewer: 1.5k
Dman,
I have a full-time job but I do want the property to support itself .The T&I is included in the expenses. The heat & elect is individual.
Thanks Phil & Dman
With those numbers I'd go stated. The max 1st you'll get with your credit is 65% or 70%, so the seller will have to take a 20-25% second. You'll need to have 10% into it yourself plus costs.
Expect a rate in the mid to high 8s on a 2 year ARM.
I don't know how to get it through on a full-doc with those numbers. Just being honest with you. Maybe someone else has a full-doc solution.
Dman,
You do not think these numbers will support a 25yr or 30 yr loan ?
Thanks guys for all the input. I am going to review all the numbers again . I might have to pass on this one .
[ Edited by eoffiong on Date 12/30/2003 ]
Please double check my numbers and see if you can come up with a DSCR of 1.25.
You can try a full-doc deal first, and if it doesn't work, go stated.
[ Edited by floeb on Date 01/27/2004 ]
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[ Edited by floeb on Date 01/27/2004 ]
Nice to met you DecisionMan,
Can you please xplan what DSCR of 1.25 means. How is it calculated?
Debt Service Coverage Ratio (DSCR) measures a property's ability to cover monthly payments. It's defined as the ratio of net operating income over the mortgage payments.
A DSCR of less than 1.0 means that there is insufficient cash flow generated by the property to cover debt payments.
Clearly all loans need to make sure the payments are affordable. In residential there are income and debt ratios. In commercial we look to see how much 'extra' the total mortgage payment is covered.
So a DSCR of 1.25 means that the total payment is covered, plus an extra 25%.
so would the formula be:
rent roll / total expenses=DSCR
Sorry, but I disagree. In a rough form it would be like this:
Rent roll - direct expenses = net operating income.
Net monthly operating income/new mortgage pmt, taxes, insurance = DSCR
There's more to it than this, but basically you need the net income to cover the total mortgage, tax and insurance payment by 20 or 25%, depending on the loan product.
Thank you DecisionMan,
1) Are those same rules apply on the multy units buildings or just on the business commercial spaces such as office buildings, etc.
2)How do you calculate for the future vacancy allowances at the time you consider a loan app?
Great questions!
Yes, the debt service coverage ratios apply on most commercial loans that are income producing properties. At times the property doesn't support a suitable DSCR due to vacancy, or lower-than-market rents, etc. So a buyer's other sources of income can also be considered (like their "real job" that we all want )
If the property is owner-occupied, like a light industrial or a medical office, then the business has to cover the debt using the same formula.
Now, as for vacancy allowance there are a number of ways to do this. At the time we do the loan app we'll have to assume a vacancy and collection loss percentage that will be deducted from potential gross income to derive effective gross income. We'd use something around 5% on a multifamily, maybe 7% on office, and 10% on a mixed-use property.
But we might adjust the numbers based on the financial statements and rental histories, especially if the borrower is refinancing the property.
If the property has vacancy due to old management, poor management being changed, poor property condition, and someone new is buying it, we'd probably use estimated numbers rather than actual because it is assumed that a new buyer is going to make changes.