Various lender types are explained—a good starting point for directing loans to the appropriate lender.
IN THIS ARTICLE:
- Commercial vs. Residential Lenders
- Cash Flow vs. Asset-Based Lenders
- Commercial Banks vs. Wall Street Lenders
- We Can Help
In this blog, the different areas of focus of various lender types are explained. This should be your starting point for directing loans to the appropriate lender. The endpoint—being able to match each loan with the bank best suited for it—is the result of years of experience and is the hallmark of a great broker.
There are a number of different types of lenders: cash-based, asset-based lenders, Wall Street lenders, commercial banks, and savings banks are each focused on a specific market. Loans that are suitable for one may be a terrible investment for another. Risk assessment and method of property evaluation can vary greatly depending on which lender is asked to review a loan. In addition, even the same type of lenders can have divergent needs when it comes to loans and different criteria for approving them.
As a broker, one of the most important skills to acquire is appreciating these differences and working with them. Just as a sales broker knows that there is a buyer for every property in America—the only question is, who has the appetite for the property he is selling—so too, a finance broker must work with the principle that there is a lender for every loan; he simply must find the bank whose current needs and appetite fit his client’s requirements.
Although in some instances you can get lenders to stretch beyond their traditional parameters, as a rule, a lender will not change its criteria and lending appetites. Over time you will learn the strengths, weaknesses, appetites, and limits of each lender. Eventually, you should reach the point where, after reviewing a deal for a client, you will be able to say, “This deal is just right for that bank.” Remember, there are enough lenders out there; it is not advisable to try to stretch a lender too much.
COMMERCIAL vs. RESIDENTIAL LENDERS
Although as a commercial broker, your main area of work will be commercial mortgages, it is important to have a basic understanding of the ways that a residential lender differs from a commercial lender.
The basic rule is that when lending on a commercial property the primary focus of the bank is on the property itself; when lending on a residential property the primary focus of the bank is on the borrower.
Most commercial loans are non-recourse loans. This means that there is no personal guarantee by the borrower on the loan, and the bank cannot go after his other assets; if the borrower defaults on the loan, the only thing the bank can do is to sell the mortgaged property through foreclosure. Any amount not raised by selling the property is the bank’s loss.
Note: In a case of fraud, such as the improper running of books or withdrawals by the company prior to their default, there is usually a provision that dictates that the loan turn into a recourse loan, and the bank can then seize the borrower’s assets. Local lenders outside of New York City usually have borrowers sign recourse even on commercial properties.
The banks risk this loss because the bank is mainly focused on the property itself when lending a commercial loan. The bank protects itself by assuring that the building can produce sufficient cash flow and by not lending more than a 75% LTV. Thus, its investment is protected by the property that it is lending on.
The bank does do a credit check on the owner to make sure that he can be trusted to use the income of the property to pay the bank its monthly mortgage. However, the personal income level of the borrower is almost irrelevant. Although most lenders (except those in New York City) do require the borrower to present his tax returns and personal financial statements (PFSs), it does not compare to the personal assessment done on loans for residential property.
With residential mortgages, there is no cash flow produced by the property. The bank must focus on the ability of the borrower himself to pay back the loan. The bank does this by checking two factors, the credit rating of the borrower and his income level. His income level is checked to make sure that he can afford the monthly payments and his credit rating is checked to make sure that he does not give a history of being late with his payments.
Most residential loans are recourse loans, and in case of default, if the foreclosure process does not bring in the full amount owed to the bank, the bank will go after the assets of the borrower. The house is viewed only as a collateral of the loan—one way for the bank to recoup its loss in case of default.
CASH-FLOW VS. ASSET-BASED LENDERS
The primary focus of a cash flow lender is the ability of a property to produce enough cash flow to provide steady monthly payments. Asset-based lenders are focused on the amount of money that can be made by taking over the property should the borrower default on the loan.
These different ways of approaching loans dictate the types of loans that you, as a broker, should or should not seek from each.
For example, a client is looking for a loan of $2,000,000 on a vacant building worth $8,000,000. From a risk point of view, this is a great deal. In the worst-case scenario, the bank will certainly be able to sell the building and recoup its $2,000,000. However, a cash-flow lender does not want to be in the foreclosure and sale business. Their most important goal is to have a steady income to pay their depositors or the source from which they borrowed the money.
On the other hand, this would be a perfect loan with which to approach an asset-based lender. Since the value of the building could easily cover the loan, they are not taking a major risk. In the case that the loan is paid on time, they have the benefits of having charged higher interest rates.
COMMERCIAL BANKS VS. WALL STREET LENDERS
The main characteristic of Wall Street Loans is that they are not flexible. Since the loans are sold to investors, Wall Street lenders must guarantee a certain steady return to their investors. This inflexibility can express itself in many ways, each of them a possible determining factor in choosing the appropriate lender for your client.
Prepayment Penalties: Wall Street Loans do not accommodate prepayment easily. They sell the loan assuming a steady income and therefore penalize prepayment heavily. For a smaller loan (under $5mm), prepayment is costly and inefficient. The only time that you would go to Wall Street is with a loan that is large and stable, and there is no reason to suspect that it will need to be prepaid.
Personalized Treatment: With a standard loan, there is one entity or lender who has authority over the loan. If any issues arise with a loan, it is much easier to have it dealt with on an individual basis, taking into consideration the various aspects of the loan. With a Wall Street loan, many different entities have a share and a say in the loan. It is therefore much more difficult to make any necessary adjustments within the course of the loan term.
Standardization: Wall Street loans are highly standardized. The process of applying for and obtaining the loans is therefore familiar to the brokers and can facilitate an easier and quicker process for certain loans.
To summarize, loans suitable for securitization are: large and long-term loans, mortgaged on conventional property types (e.g., retail, office, multifamily) with regular and stable cash flows.
1. What are the top five American banks for commercial real estate loans?
The top five American banks for commercial real estate loans, based on 2021 data from the Federal Reserve, are:
- Wells Fargo
- JPMorgan Chase
- Bank of America
- U.S. Bancorp
- Truist Financial
It’s worth noting that rankings can change over time and can also depend on the specific criteria used to evaluate the banks. Additionally, there may be other banks or financial institutions that specialize in commercial real estate loans and could be worth considering as well.
- How do you know if you’re choosing a good lender for a commercial real estate loan?
Choosing a good lender for a commercial real estate loan can be a critical decision that can impact the success of your project. Here are some factors to consider when selecting a lender:
- Experience: Look for a lender with experience in commercial real estate lending. They should have a proven track record of successfully closing loans for properties similar to yours. Ask for references and case studies.
- Terms and Rates: Compare the terms and rates offered by multiple lenders. Look beyond just the interest rate and consider factors such as loan-to-value ratios, amortization schedules, and prepayment penalties. Make sure the terms and rates are competitive and align with your financial goals.
- Customer Service: Consider the level of customer service the lender provides. Are they responsive to your inquiries and concerns? Do they keep you informed throughout the loan process? A good lender should provide clear communication and excellent customer service.
- Flexibility: Look for a lender who is flexible and can customize loan terms to meet your specific needs. This is especially important if you have a unique project or need a loan with non-standard terms.
- Reputation: Research the lender’s reputation in the industry. Look for online reviews and ratings from previous borrowers. Consider working with a lender who has a positive reputation and is well-respected in the industry.
By evaluating these factors, you can choose a lender who is knowledgeable, reliable, and can help you achieve your financial goals. It’s also important to note that working with a trusted commercial real estate broker or advisor can help you navigate the lending process and make informed decisions.
WE CAN HELP
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Expert assistance each step of the way: Our team of commercial real estate veterans are available to answer any questions you may have about the financing process.