As a former banker, I have seen all kinds of issues from clients during the lending process. I used to get clients saying, “I’m a surgeon, my cash flow is fantastic,” to “I’ve been practicing law for 20 years, of course I’ll qualify.” Borrowers see themselves much differently than what is actually on paper. They view themselves in rose-colored glasses in a pristine perfect world with flying unicorns. Unfortunately, in the real world bankers see an entirely different view. The picture becomes clear once the financials are collected, credit reports are pulled, and spreads are calculated. Below are the biggest problems that I have seen with commercial real estate.
Once the credit report is pulled, there is almost always some form of hair (e.g. slow pays, charge-offs, judgments, etc.) in their credit report. If you have two to three 30-60 or 90 day lates, you might be doomed unless you have a really compelling story or other mitigating factors that will help justify your case. Recent bankruptcy, foreclosure, or tax liens? Unless you have a ton of liquid assets, a killer net worth, or Tom Cruise as one of your guarantors, you can forget about it.
Borrowers continue to over leverage themselves. Just because you locate the perfect office, warehouse, or apartment complex and you think it will be a great deal does not mean it is right for you. Have the cash reserves to support your new venture and show the banks that you have sufficient funds to justify the new asset. I have seen several borrowers request commercial real estate loans with little or no revenue to support the asset as well as insufficient net operating income.
Business is Less Than 3 Years
Banks want to see that you have been in business at least three years. Why? They want to make sure that you have been profitable two out of the last three years. It is important for the banks to see trends in your business. If you had a bad year but the last couple have been killer, they can swing the deal.
Property Does Not Produce Enough Income to Sustain
Time and again, clients were buying income properties for “potential.” Yes, the property has potential and rehabbing the property (e.g. putting lipstick on a pig) will attract tenants and increase property value. But it lacks the net operating income to support the asset. If it does not add up, you are out of luck.
The above are just a few examples that I have seen throughout the years. Of course, there are exceptions to the rule. Borrowers with a high net worth or investment properties that produce high net operating incomes can be massaged to underwriting. If one of the guarantors is weak (e.g. low credit/insufficient credit, net worth is low) but the other guarantors are strong, you may be able to state your case. Some lenders may be able to make exceptions based on deposit and relationships with the institution as well.
(Tip: Have your financial package in order. Contact your CPA to have all your documents in order prior to meeting with the banker. There is nothing more frustrating to a banker than getting the financial package pieced to you.)
The biggest problem in commercial real estate can be fixed if the borrower is willing to be patient and hash out his/her finances prior to going to the bank. Nothing is more frustrating to a loan officer than coming across a hairy deal.