The Loan Process For Commercial Property

Arranging a loan for commercial property

FINANCIAL INSTITUTIONS HAVE a range of methods for evaluating commercial properties, but there are some general guidelines they typically follow.

One of the key numbers that banks focus on is the property’s Net Operating Income (NOI), which is essentially the rental income minus expenses.

However, the calculation of NOI can differ significantly from one lender to another. However, determining the Net Operating Income involves a relatively simple process. 

First, you start with the rental income from the property and deduct a vacancy factor, which is determined by the property type and location, to arrive at the Gross Operating Income. 

Next, you subtract all expenses not being paid by the tenant – such as rates & taxes, utilities, insurance, repairs & maintenance, and property management from the Gross Operating Income … to calculate the Net Operating Income.

To further assess the property’s financial viability, lenders use a Debt Coverage Ratio, which may vary based on the property’s location and risk factors. The higher the risk associated with the property, the higher the Debt Coverage Ratio required.

The Debt Coverage Ratio acts as a safety net for lenders, ensuring that the Net Operating Income can cover their exposure to risk. 

Given the cautious lending environment, banks tend to be conservative in their assessment of income – often using a higher vacancy factor (and increasing expenses) to arrive at a conservative Net Operating Income figure.

This Net Operating Income figure is then divided by the Debt Coverage Ratio to determine the maximum mortgage amount that can be secured by the property.

Despite these measures, lenders still rely on a Loan-to-Value Ratio. And this can vary depending on the location and level of risk associated with the property. 

For more specific advice, you might care to contact Cameron Perry (of Perry Finance) on 0401 161 769 – and make sure you mention my name.

Bottom Line: With commercial properties, lenders very much rely on recent comparable sales and rentals. Typically, they require a formal valuation of the property before finalising the loan amount. 

Best wishes …

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