Number nine on the list the borrower’ personal needs are too high
Personal needs are the actual expenses that the borrower is incurring everyday to live. Personal needs can consist of rent payment, or mortgage payment which ever they have or both if they own rental properties. It also can consist of car payments, credit card payment, normal living expenses such as utilities, insurance taxes etc.
The lender needs to know that the personal needs of the borrower can be covered from their income, spousal income or through other investments they may have. Personal needs can be covered by the new investment but they will be deducted from the net operating income when the lender does their calculations to determine if they will approve or deny a loan.
I don’t want you to think that net operating income or seller’s discretionary income as sometimes it is referred to will be affected by the personal need calculation. They just want to know that the personal needs can be covered.
There are various methods that a lender may use to determine personal needs. But whether they use one method or another the data is going to come from the borrower’s credit report. Some lenders take a hypothetical number based on experience, other lenders take all their revolving debt and multiply by a factor, and some lenders take all of the expenses on a PFS or Personal Financial Statement and multiply that by a factor.
For example one lender that we work with doubles their annual debt service for revolving credit and 1.25 time any other debt service such as rental property, with a credit for the gross rental income to be calculated in their total income to the borrowers.
If the property or investment cannot support the requested debt service and the personal needs the loan will most likely be adjusted downward or denied
For personal need calculations as well as debt service calculations read our book GET Your Loan Closed!, now we include FREE weekly commercial loan training as well with each purchase.
Number eight on the list the property is in an undesirable location
We have all heard the old adage, Location, Location, Location. If the property is in a desirable location it only makes the lender more comfortable. But we are aware that properties that are not in good locations can still be financed.
The key to location is that the property must fit in with the surrounding environment. For example an industrial building even though it is beautifully maintained in a purely residential area would be hard to finance even if it was built under the proper zoning. The reason is that the property would be downgraded by an appraiser for not “fitting in”.
While on the other hand a “C” property surrounded by all “C” properties would be more likely to be financed. The lenders would not have that much of a difficult time re-selling the property in the event of a foreclosure or a default by the borrower. The key is does the property fit in to the environment, if it does it will be easier to finance?
But there is another more unknown issue of undesirable location rather than just where the property is located. That of where the borrower is located in relationship to where the property is located. A local borrower with a local property can be much easier financed than a local borrower with an out of area property. The lenders want to know that the borrower can visit his property regularly, to keep an eye on the property to make sure that it is well maintained etc. If the borrower is so far from the situs of his property lenders are concerned that the borrower is not going to know exactly what is going on in the property.
For example, we had a client that was very strong, but he was buying a property n Oklahoma, while living in San Diego. I could not find one lender that would entertain this transaction. It was all due to the fact that the borrower was too far geographically from the property.
For more on location and types of properties buy our book GET Your Loan Closed!, now with FREE Commercial Loan Training.
Number seven on the list the borrower does not have the requisite experience
SBA Loans made by SBA Lenders which are the predominant type of loan for the purchase of a business want direct experience in the industry as well as previous ownership in the same field. There is one exception though where the lender will apply any retail experience to another type of retail store.
For example if you owned a shoe store and you wanted to purchase a hardware store the lender may see that as direct experience. However if you are an engineer and you wanted to buy a Chiropractic practice even though you are an owner of a previous business that experience would not be transferable.
In addition many businesses in the professional area need a license to run the business, so if you are not licensed they will not lend you the money to buy the business. For example a non-broker could not purchase a Real Estate business, likewise an individual who wants to purchase an insurance agency could not buy one without the proper insurance licenses in place.
Does management experience in the same industry qualify as experience to purchase a business?
Today probably not, Ownership interest is drastically different than management experience. As a manager all you need to do is run the day to day business. As an owner you have to handle all of the management as well as the ownership responsibilities such as paying taxes, filing financial reports, hiring and firing employees and making decisions that are directly related to the overall finance status of the business.
Experience is also becoming paramount for the purchase of commercial investments as well. I have written an article that will be published in the Scotsman Guide in March that looks at experience in great detail.
For the role of experience please see our book GET Your Loan Closed!, and with purchase we are including free weekly commercial loan training.
Number six on the list is that the property leases are not long-term but are month to month
This blog will probably be the shortest of the ten.
Very simply the longer the lease term the more comfort the lender has with the project. Month to Month tenancies, where the tenant has to give the landlord only a thirty day notice to vacate do not give lenders comfort.
Long term leases on the other hand give a high comfort level to the lender that the projections and the actual rent roll presented to the lender in the underwriting process should remain intact.
What is considered long term. A minimum of five years is what the lender is looking for these days. A Year to Year tenancy - if the tenants have been there for many years and they have a consistent pattern of renewing their lease every year that may be good enough. Especially if we are talking about commercial tenants. Commercial tenants have a tendency to stick around a lot longer. They have made their business presence known in the community and they do not like to move about, unlike residential tenants where any change can cause them to move.
Less than thirty day tenancy is no even considered!
Enjoy our book GET Your Loan Closed and now get free commercial loan training with every purchase.
Number five on the list the borrower does not have enough closing liquidity
As we have mentioned in previous blogs cash is king, so it is no wonder that lenders are now looking very closely at closing liquidity.
What is closing liquidity? Closing liquidity is the amount of ready cash that a client has after the transaction is closed. It is not the amount of down-payment; it is what is left over after the investment has been purchased. Lenders want to know that a borrower has at least six months worth of carry.
If the new investment that the purchaser acquired has any shortfalls the lender wants to make sure the borrower can cover the shortfalls. For example you bought an apartment complex and it was leased to 95%, then all of a sudden vacancies occurred. The lender wants to make sure you can cover those vacancies as you look for more tenants.
Another example relates to business opportunities. You’ve bought a business based on the representations of the seller, the financials of the seller and the tax returns. However, you find out that once you take over the business the clients that the seller represented were going to stay have now jumped ship. The lender wants to make sure that you have enough working capital to survive the transition. In some transactions we are actually able to fund a certain amount of working capital, to have a stronger financial statement. But the lender also wants to make sure that you have adequate funds for reserves available if needed.
In our economic state we are in now, closing liquidity is getting more and more important. The lenders are looking very closely at a clients personal needs and also determining how much discretionary income and savings they have before they are funding loans. The last thing a lender wants today is to take back another property. If you as a borrower having a great deal of LIQUID cash that is going to give the lender a great deal of comfort. So much comfort that they may actually do a deal that they were not originally planning on funding. The obvious reason is that you can support a change in circumstances; the less obvious one is that they can possibly get your “strong” banking deposits.
For more on closing liquidity please read our book GET Your Loan Closed! now for a limited time comes with FREE Commercial Loan Training.
Number four on the list is the property does not appraise at the purchase price or better
Number Four is a Biggy. If the property or the business does not appraise for the purchase price or better that should tell you one thing and only one thing – You overpaid for the investment. Unlike residential property buying a commercial investment or a business opportunity the bottom line is that you want to make money. If you are overpaying for the opportunity you are automatically losing money because you paid too much.
Also unlike residential all buying decisions for a commercial property or a business opportunity needs to be totally unemotional. If emotions are involved then you will not make the right economic decision. Having an appraisal be returned that is not what you expected immediately should cause you to re-evaluate the purchase. But if you are emotional then you will not re-evaluate and you will most likely move forward on the investment.
BUT, then you try to finance the investment and the appraisal comes in lower – what do you do? You have to either re-negotiate your sales agreement, get seller concessions, or walk away.
With SBA Loans, all businesses greater than $250,000 are now required to have a business appraisal, or business evaluation. The larger the purchase price the more in-depth the business appraisal. The lenders must know that you are paying a fair price for an investment before they will lend you the money. If an appraisal comes in lower the lender will ask you to put in more money or re-negotiate the deal, they will not fund the difference. Or in some circumstances they will just flat refuse to offer any financing.
Lastly to reiterate one of the words of wisdom of a previous post – Do not order the appraisal yourself!
To get much more information on the entire appraisal process, and how the lenders evaluate the various reports that are furnished by the appraiser pick up our book GET Your Loan Closed!, now with free commercial loan training.
Number three on our list the borrower has poor credit
There is an immediate reason why a deal will fail, BAD CREDIT. Bad credit will kill a deal faster than anything else, so what exactly is bad credit. Bad credit is different for each type of deal, but let’s starts off with a discussion of credit first
The most widely used credit scores are FICO scores, which were developed by Fair Isaac & Company, Inc. (and they’re named after their inventor!). Your FICO score is between 350 (high risk) and 850 (low risk). Credit scores only consider the information contained in the credit profile. They do not consider income, savings, down payment amount, or demographic factors like gender, race, nationality or marital status.
Credit scoring was developed as a way to consider only what was relevant to somebody’s willingness to repay the loan.
Different portions of the credit history are given different weights. Thirty-five percent of FICO score is based on specific payment history. Thirty percent is current level of indebtedness. Fifteen percent each is the time open credit has been in use (ten years old accounts are good, six month old ones aren’t as good) and types of credit available to you (installment loans such as student loans, car loans, etc. versus revolving and debit accounts like credit cards). Finally, five percent is pursuit of new credit — credit scores requested.
Now that we have given you a brief analysis of credit score where should your score be if you are trying to get a loan? For an SBA Loan most lenders will not even entertain your loan application if you have less than a 650 FICO score. Some are now requiring a 700 FICO score. Another question we are asked a lot about is Bankruptcy.
Can I get a loan if I declared bankruptcy? Generally no, if the bankruptcy is less than ten years old it will stay on your credit record under the section known as public filings. The only bankruptcy that we may be able to get around, and I say maybe is one that was caused by medical reasons. Other than that a bankruptcy will also kill the deal.
For a much more in-depth study of credit and its relationship to getting your next loan approved, read our book GET Your Loan Closed. For a limited time only buy the book and get FREE weekly Commercial Loan Training. Download yours today for $37.00.
Number two on the list is the property does not cash flow
For any investment the buyer / borrower wants to get a good ROI, or Return on his investment. That usually means that the amount of money as a down payment will be returned to a borrower in the form of cash flow from the investment in X period of time. The shorter the period of time the greater the Return on Investment. Well that is exactly what the bank wants as well they want a high percentage of a good Return on Investment – they do not want the property back in foreclosure or default.
How does the lender secure that position? They ask that there is an excessive coverage of cash flow to support the debt service of the project. This is more commonly known as debt service coverage ratio. The difference between what the properties is cash flowing and they require debt service for the loan is known as the coverage factor. Most lenders typically are looking at 1.25% to 1.35% DSCR
What does that mean? Very simply for every dollar of debt service that is required you need 1.25 to 1.35 in cash flow. For example a $500,000 loan at 6.0% amortized over 25 years has an approximate payment of $3,225.00. To meet the loan payment of $3,225.00 a property would have to have total cash flow available for debt service of at least $4,200.00 and that is at 1.25% at 1.35% the amount of cash flow to support the project will need to be over $4,350.00 per month.
If the property after all expenses does not have an additional $1,250.00 approximately the deal will not be considered to cash flow. Many times a borrower is going to do their own due diligence and when they figure out their cash flow the project easily supports the requested debt service coverage ratio, so why would a lender turn down a deal for improper cash flow. There are actually many reasons, but they all boil down to this – the lenders expenses that are deducted from the cash flow are not the same as the borrower had deducted.
This will be a topic of another blog post in the near future after we conclude the Letterman list. Make sure you read our book GET Your Loan Closed for an exhaustive study of the way a lender treats cash flow.
Number one on the list is the buyer does not have the proper down payment
Why is this number one on the list, because without the proper down payment no lender will look at the deal? The down payment will ultimately yield what the Loan to value the client can measure up to, not necessarily what Loan to Value the lender is going to offer. So tonight I want to examine the area of down payment from the requisite amount for each type of loan to what loan to value really means in application.
First let’s explore what the down payment can consist of. Very simply, Down payment is CASH. Many of our prospective clients think that down payment can be the difference between what a property is bought for an increased appraisal amount. Those days are gone. Down payment is only a cash contribution. In the event of a client who owns a piece of land and is building a project, equity can be considered the free and clear land as well as any monies that the client put into the development project that is directly related to the project being built.
Secondly, what down payment is required for what type of loan?
SBA Loans – Business Opportunity – a minimum of 15% contribution by the borrower and 10% by seller or at least 20% by the borrower without any seller carry back. There can be exceptions to the 20% if the business is strong and cash flowing
SBA Loans Real Estate Purchase or Refinance – a minimum of 10% down, as long as not single purpose such as hotel, motel, bowling alley etc. If single purpose most likely the lender will want to see at least 25% down
Commercial Loans – a minimum of at least 25% to 40% depending on the cash flow of the project and the strength of the borrower as well as the future deposit relationship
Lastly for commercial loans the published loan to value maximum that a lender may advertise may not be the actual loan to value that you are going to be subject to. The reason is that loan to value; contribution or down payment will all be dictated by how much cash flow, debt service the project can support.
For more on down payment and contribution get our book today, GET Your Loan closed, and now for a limited period of time includes free weekly commercial loan training.
The battle for Night-time host is heating up, I decided that I was going to take a stand and side with David Letterman over Conan, & Jay Leno. To show my allegiance to Dave I am going to be posting in a style that I know he would approve of. For those David Letterman fans here is my top ten list of why deals will fail.
Number one on the list is the buyer does not have the proper down payment
Number two on the list is the property does not cash flow
Number three on our list the borrower has poor credit
Number four on the list is the property does not appraise at the purchase price or better
Number five on the list the borrower does not have enough closing liquidity
Number six on the list is the property leases are not long-term but are month to month
Number seven on the list the borrower does not have the requisite experience
Number eight on the list the property is in an undesirable location
Number nine on the list the borrower’ personal needs are too high
Number ten on the list is lack of collateral for both Business and Commercial loans
Over the next ten days I will be thoroughly examining each of the above reasons why deals fail. We are definitely starting to see a trend again with lenders tightening up, it’s almost like they ae preparing for a major fall again. Let’s hope not! Good loans can be closed, it’s just that the lenders are under such scrutiny today with the FED watching everything that the lending community is being very very cautious. However, a good SBA Loan will close every day. With 90% Guarantee and no SBA Guarantee Fee it is your best loan out in the marketplace.
Please pick up our book GET Your Loan Closed, so that you will not fall victim to the top ten list above. Buy it today for only $37.00 - immediate download
