Commercial mortgages
Commercial lending has different standards of underwriting and various concerns of the mortgage holder. Commercial insurance, commercial finance and commercial lending are very important terms used in financial markets. Commercial mortgages are used widely by the businesses and these loans are issues at different commercial mortgage rates. The commercial rate on the commercial real estate loan depends on the credit standing of the borrower and the risk assumed by the lender. Let us now look at the details of commercial mortgages and lending.
Commercial mortgage:
Commercial mortgage is a type of loan that is obtained by pledging real estate as collateral with the lender in order to obtain the loan. The commercial mortgages are very much similar to residential mortgages, with the only difference lie in the fact that the real estate pledged in commercial mortgages is a commercial property or other business, but not residential property on any case. Commercial mortgages are particularly meant to meet the needs of businesses and not the individual customers. The businesses take the form of partnerships, sole proprietorship, any corporation whether public or private limited company and this makes the credit assessment of the businesses a complex, but more elaborate task as compared to the residential mortgages.
Commercial mortgages are risky in terms of its nonrecourse nature. This means that if the business defaults on the mortgage loan, the lender can only claim on the commercial real estate being pledged and nothing other than that. So, if the deficiency remains in the recovery of mortgage loan, the creditor cannot possibly get it back. However, there may exist certain obligations in the contract that may require the lender to pay in full all the dues remaining if the foreclosure of the commercial property is not sufficient to repay the outstanding balance, but these obligations rarely exists.
The tenure of commercial mortgages:
The vast majority of the commercial mortgages have a term period extending between twenty to thirty years and these mortgages have very small payments that are monthly in nature and the borrower can easily pay these payments. However, if the borrower wants to pay back before the maturity, he is required to make the balloon payment, that is the fully payoff the loan. This early payment of the mortgage normally takes place when the borrower wants to refinance the loan especially when the interest rates on commercial mortgages decrease. So, there are two very vital elements related to the maturity of the loan, these are the period of time till the full payoff can be made and the amortization of commercial mortgage. The minimum length of the commercial mortgage can be five year with the maximum time being thirty years, with the respective amortization schedule. If the commercial mortgage has a term of twelve year and thirty year maturity, it is called as mortgage of 12/30. If the commercial mortgage does not allow prepayment, then the thirty year mortgage is referred to as 30/30 and a twenty five year mortgage is referred to as 25/25.
A broad perspective of commercial mortgage:
Commercial mortgages are obtained for the acquisition of some land or any commercial real estate and sometimes they are also used for refinancing the debt. Commercial property is obtained for variety of reasons; they business may be expanding or there can be a new business starting up. If the periodic payments of commercial mortgages are not paid in time, the property gets at risk. Most of the lender demand that the borrower must have a good credit history and the business must be creditworthy, but the business with not so good credit standing can also find a lender who is willing to lend at a higher interest rate. These businesses have to show that their business is running in good conditions and is profitable and the income of the business is sufficient enough to pay off the commercial mortgage. The terms and conditions involved in the mortgage loan vary from customer to customer depending upon the type and condition of the business and the type and value of collateral available for pledging.
Underwriting of commercial mortgage loan:
The commercial mortgage loans are designed in a manner so as to facilitate their underwriting, but all this depends on the real estate commercial that is pledged with the loan rather than on the credit history of the borrower. Thus, many lenders demand that the property pledged for s commercial loan should be owned by a single entity or business; this makes foreclosure of the collateral easy in the case of default on commercial credit and even in the case of bankruptcy of the borrowing concern. However, in the case of residential mortgage, the lien on the property has limitations on the sale and has to go through several court trials when the bankruptcy is declared by the borrower.
Concerns of the lender:
There are two important requirements that lenders demand while considering issue of commercial loans. One of this requirement known as debt service coverage ratio and this ratio must range from 1.1 to 1.4, as most of the lenders demand. The debt service coverage ratio is calculated as a ratio of the income the commercial property produces as the net cash flows over the mortgage payment due to the lender. For example if the income from tenants is US $100,000 and the expenses incurred on the building are US $10,000, then according to the debt service coverage ratio of 1.2, the lender will not give a loan that will require monthly payments of more than US $75,000.
The other requirement is loan to value or LTV, it is a mathematical calculation calculated as the amount of loan as the percentage of the appraised value of the collateral. For example if the loan amount if US $800,000 and the market value of the property is US $1,000,000, then the loan to value is 80%. Commercial lending demands 55% to 70% of loan to value while the residential mortgages can have LTV of 80% or above.