Rental Property Investor · Macomb, MI · Member since 2012 · 105 posts · 86 votes
I am currently approved for a commercial loan that is amortized over 20 years, but with a 5 year term. At the end of the 5 years, are these typically "refinanceable"? Or should I be aggressively trying to pay this down? I feel that the numbers work favorably and it's a solid investment for both sides, but just looking for input from others that have experience.
Thank you in advance!
Rental Property Investor · Mercer Island, WA · Member since 2008 · 22k+ posts · 14k+ votes
10y
Any loan is "refinancable", provided you can find a lender to give you a new loan. Commercial loans (in the US) commonly have balloon payments like this. The 20 year amortization period gives you a lower payment while the five year balloon protects the lender from having their money tied up at a low rate.
Finding a new lender is key. The existing lender may or may not be willing to give you a new loan. An investment group I'm in did this a few years ago on a mini storage. It was tough and we almost lost the property. We went through a number of possible lenders before finding one that would do the refi. And it was a cash-in refi where a new injection of cash was needed to so the new loan met the lender's LTV requirements.
Commercial loans are all about the income produced by the property. In our case, they looked at five years of income statements. Weak years at the start of that time, right after we bought the property and were still getting it turned around, hurt the value.
Specialist · Toronto, Ontario · Member since 2016 · 564 posts · 425 votes
10y
Interesting. I'm not sure how commercial loans are treated at the end of the term.
In Canada, 5 year terms are the norm for residential mortgages. At the end of 5 years, you can decide to change lenders, in which case you need to apply to other lenders, or your existing lender (as long as you have been making regular payments) will offer to continue your loan into a new term with the existing amortization continuing. They basically just send you some documents with different rate options (ie: 6 month open mortgage, 2 year term, 4 year, 5 year, and rarely a 7 or 10 year option). You tick off the option you want, sign and send back the paperwork, and your loan continues at the new rates for the new term. Easy.
I don't know how commercial loans are treated at the end of the term though, so I hope someone else can chime in.
Rental Property Investor · Mercer Island, WA · Member since 2008 · 22k+ posts · 14k+ votes
10y
Any loan is "refinancable", provided you can find a lender to give you a new loan. Commercial loans (in the US) commonly have balloon payments like this. The 20 year amortization period gives you a lower payment while the five year balloon protects the lender from having their money tied up at a low rate.
Finding a new lender is key. The existing lender may or may not be willing to give you a new loan. An investment group I'm in did this a few years ago on a mini storage. It was tough and we almost lost the property. We went through a number of possible lenders before finding one that would do the refi. And it was a cash-in refi where a new injection of cash was needed to so the new loan met the lender's LTV requirements.
Commercial loans are all about the income produced by the property. In our case, they looked at five years of income statements. Weak years at the start of that time, right after we bought the property and were still getting it turned around, hurt the value.
Real Estate Agent/Investor · Clarkston, MI · Member since 2013 · 156 posts · 34 votes
10y
Very interesting @Jon Holdman, most people never talk about that end of the spectrum. Finding a poorly managed property in the commercial world obviously wreaks havoc on the cashflow and when you go to lenders to get financing thats exactly what they are looking for...makes for an interesting time I am sure? I have not been through that yet been I know I will be soon. I am guessing it is just finding the right lender and proving your systems and team will bring the investment back up, correct?
Rental Property Investor · Mercer Island, WA · Member since 2008 · 22k+ posts · 14k+ votes
10y
"Systems and team" are really table stakes. Lenders will expect a certain level of experience and expertise from the borrower(s). But commercial property is going to be appraised based on actual income, not potential. When you're doing a turn around deal, you're going to need a bunch of your own cash to get over the hump.
Rental Property Investor · Macomb, MI · Member since 2012 · 105 posts · 86 votes
10y
This is on a self storage property as well and one of the reasons I ask. I did use some of my lower end SFH property as collateral which is a calculated risk, but reduces the money I bring to the table. The units are 98% rented, however there is room to build another building.
I am weighing the option of saving up for the 3rd building, or hammering everything into paying the mortgage off.
Investor · Plano, TX · Member since 2014 · 188 posts · 149 votes
10y
@Mark Byrge, if its an income generating asset, rather than paying down the loan you need to focus on creating and adding value to the property and after wards you can refinance for better terms (lower rate) and increase your CoC return!
On the other hand, if you are buying a liability (non cash producing pretty home), I would try to focus on getting a fixed term loan. Personally, I hate the idea of a balloon payment at the end of the 5 years and subject to the whims and fantasies of the economy and banking industry. If you do take that route, you need to plan on refinancing during year 4!
Rental Property Investor · Mercer Island, WA · Member since 2008 · 22k+ posts · 14k+ votes
10y
A challenge with this loans is you're often sandwiched between a balloon and a pre-payment penalty. You definitely want to be working on the refi or a sale well in advance of the balloon time. But not so far in advance you're stuck paying the pre-payment penalty.
Buy & Hold Owner · Redlands, CA · Member since 2015 · 5k+ posts · 2k+ votes
10y
The bank will happily entertain your application for new terms - - you are an existing asset on their books and what they want is to update the rate.
FORGET prepayment, the penalty is designed to discourage you from that - - clearly.
Start your refi 6 months before the note comes due and by all means, go back to the same back where you settled the first time. This should be a cakewalk for you.
Syndicator and Fund Manager · Victor, NY · Member since 2012 · 760 posts · 345 votes
10y
Mark Byrge these absolutely are refinancable. The entire world of commercial financing is built around bullet loans and balloon payments. It's just nature of the game. Some banks will do a rate reset and extend for another term but for the most part borrowers are constantly shopping around financing options.
Banks will offer 7 and 10 year terms as well and you can also get a 25 or 30 year amortization depending on the property.
Rental Property Investor · San Diego, CA · Member since 2014 · 1k+ posts · 2k+ votes
10y
You know what is really amazing to me is having part or all of your loan being non-recourse. I am purchasing my 5th apartment complex in about 60-90 days. It is 75% non-recourse and 25% recourse. The loan is for about $900,000 or a little less. Only $200,000-$225,000 is recourse. It is in a B class area. We are assuming the 23 years remaining at 8yrs at 4.37%, then a 3yr option and 3yrs later another 3yr option and 3yrs later another 3yr option etc... Until 23 years. An insurance company holds the loan. On our $350,000-$380,000 down payment we are expecting $35,000-$40,000 tax deferred cash flow right out of the gate and rents are approximately $80.00 under market rents. Purchase price is $1,250,000.
Investor · Denver, CO · Member since 2016 · 213 posts · 57 votes
10y
Had to look this up so here it is for the non-recourse loan definition http://www.investopedia.com/ask/answers/08/nonrecourse-loan-vs-recourse-loan.asp
Investor · Statham, GA · Member since 2010 · 75 posts · 26 votes
10y
The bank doesn't want to be in the rental business. Make your payments and the renewal is pretty much a signature. Not guaranteed but if they were to call the loan they own the house and they are not in the home owning or rental business.
I have done 10 year terms (on a 9 year remaining am from a previous 3 year term/12 year am) for a slightly higher rate but am now (not even 3 years later) going to refi these with another bank on a 20 year am and 5 year term for a much better rate than I have right now.
The only thing that bothers me is the uncertainty of what interest rates will be like in 5 years. But you can't control everything.
Remember you're getting this loan with interest rates at all time historic lows. Some young investors might not even know this but the fed funds rate is normally between 5% and 7% not 0%. So if you're getting a loan now at 5% interest for those first 5 years, when you go to rifi, rates could be "normal" and the interest rate on your new loan could be in the 8%-12% range. And that's if you can get a loan, what if banks are tight then due to another downturn? The monthly payment on a 5% 1 mil loan amortized over 20 years is roughly $6,600. The monthly payment on a 9% 1 mil loan amortized over 20 years is $9,000.
On a deal that has a current DSCR of 1.25 that increase in monthly payment would make the deal cash flow negative. Also, if interest rates go up that high cap rates will have most likely gone up, decreasing the resale value of the property.
That said, we could have interest rates stay the same for the next 20 years (look at Japan), interest rates could be negative in fact, no one really knows. So what I'm saying is think about all possible macro scenarios when analyzing the risk/reward of a deal. Means test the deal for higher interest rates, lower interest rates, deflation, inflation, higher cap rates, lower cap rates, easy credit, tight credit etc. Then if the deal still makes sense you know you've got a great deal.
Lender · Chicago, IL · Member since 2016 · 6 posts · 0 votes
10y
@Mark Byrge@George Gammonmakes a good point in that you should stress test the property for all factors subject to change (interest rate, value, cash flow). However, if the market were to tank and rates were to increase, you'd be hard-pressed to find any lender willing to provide financing. Usually your originating bank will work with you under these circumstances. If you pay on time during the life of the loan and establish a solid relationship with your bank, they will work with you.
Considering current conditions - you were approved by the bank, so it either means the property is a cash flowing property, or your a very strong borrower/guarantor, or both. In which case, you should be fine when the loan matures. In Chicago, we'll usually renew the loan, a much simpler process than a refinance. Renewals are closer to a modification or amendment than a refinance.