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Encyclopedia > Commercial mortgage

A commercial mortgage is a loan made using real estate as collateral to secure repayment. Real estate is a legal term that encompasses land along with anything permanently affixed to the land, such as buildings. ... Collateral within a financial context is used to indicate assets that secure a debt obligation. ...


A commercial mortgage is similar to a residential mortgage, except the collateral is a commercial building or other business real estate, not residential property. This article does not cite any references or sources. ...


In addition, commercial mortgages are typically taken on by businesses instead of individual borrowers. The borrower may be a partnership, incorporated business, or limited company, so assessment of the creditworthiness of the business can be more complicated than is the case with residential mortgages.


Commercial mortgages are typically nonrecourse, that is, that in the event of default in repayment, the creditor can only seize the collateral, but has no further claim against the borrower for any remaining deficiency. Less commonly, the mortgage is supplemented by a general obligation of the borrower, which makes the debt payable in full even if foreclosure on the mortgaged collateral does not satisfy the outstanding balance. It has been suggested that Non-recourse debt be merged into this article or section. ...

Contents

Terms of a Commercial Mortgage

The majority of Commercial Mortgages in the United States, while requiring the borrower to simply make a monthly payment small enough to pay off the loan over a 20 to 30 year time frame, require a balloon payment (a total payoff) after a lesser time frame. The borrower most likely will attempt at that time to refinance the loan. Thus there are two elements generally to the term of a commercial mortgage loan: the length of time allowed until balloon payment (known simply as the term), and the amortization. The length of the loan can vary from 5 to 30 years. If a loan had a 30 year amortization schedule, but a 10 year term it would commonly be referred to as a 10/30. Since residential mortgages do not require this early prepayment, a 30 year residential mortgage could be referred to as a 30/30.


As an example, assume a $15,000,000 loan at 8% interest with a 30 year amortization schedule and 10 year term (a 10/30 loan) with monthly payments. The payment amount would be $110,065 per month or $1,320,776 per year (in Excel: =PMT(8%/12,30*12,15000000,0)*12 ). The princiapl balance owed (to the mortgage bank) at the end of each of year would be:

Year $ owed to bank $ Paid per year
0 $15,000,000 $1,320,776
1 $14,863,795 $1,320,776
2 $14,727,186 $1,320,776
3 $14,419,010 $1,320,776
4 $14,419,010 $1,320,776
5 $14,245,484 $1,320,776
6 $14,057,555 $1,320,776
7 $13,854,027 $1,320,776
8 $13,633,608 $1,320,776
9 $13,394,893 $1,320,776
10 $13,136,366 $1,320,776

At the end of the 10 year loan term, the borrow would have to pay the remaining balance (balloon payment) of $13,136,366. Note: If this table were continued, '$ owed to bank' would reach exactly $0 at year 30 since the loan type is 10/30.


Uses

Common applications of commercial mortgage loans include acquiring land or commercial properties, expanding existing facilities or refinancing existing debt.


Underwriting Standards

Commercial Mortgage loans are almost always designed to be underwritten based on entirely on the attributes of the property being mortgaged, as opposed to the credit attributes of the borrower. To facilitate this, many times lenders require the property to be owned by a single asset entity such as a corporation or an LLC created specifically to own just the subject property. This allows the lender to foreclose on the property in the event of default even if the borrower went into bankruptcy (the entity is known as "bankruptcy remote"). In a normal residential mortgage, a lender would have a difficult time selling a property if the bankruptcy court case is still pending.


Lenders usually also require a minimum debt service coverage ratio which typically ranges from 1.1 to 1.4; the ratio is net cash flow (the income the property produces) over the debt service (mortgage payment). As an example if the owner of a shopping mall receives $300,000 per month from tenants, pays $50,000 per month in expenses, a lender will typically not give a loan that that requires monthly payments above $227,273 (($300,000-$50,000)/1.1)), a 1.1 debt cover. The debt service coverage ratio, or debt service ratio, is the ratio of net operating income to debt payments on a piece of investment real estate. ...


Lenders also look at Loan to value (LTV). LTV is a mathematical calculation which expresses the amount of a mortgage as a percentage of the total appraised value. For instance, if a borrower wants $6,000,000 to purchase an office worth $10,000,000, the LTV ratio is $6,000,000/$10,000,000 or 60%. Commercial mortgage LTV's are typically between 55% and 70%, unlike residential mortgages which are typically 80% or above. Loan to Value is an expression of the loan amount as a percentage of the total appraised value of a piece of real estate. ...


Interest rates

Interest rates for commercial mortgages are usually higher than those for residential mortgages.


The most common commercial mortgage is a fixed-rate loan, where the interest rate remains constant throughout the term. These loans are typically based on treasuries, swaps, corporate bonds, or CMBS rates. Loans can also be variable or capped. These rates are usually based on an index such as LIBOR. Commercial mortgage-backed securities (CMBS) are a type of bond commonly issued in American security markets. ...


A second commercial mortgage is an additional loan on a commercial property secured behind that of the first lien. The second mortgage is subordinated to the first mortgage and therefore carries a higher interest rate. For other uses, see Lien (disambiguation). ... This article or section is in need of attention from an expert on the subject. ...


Agency Mortgages

In residential lending in the United States, the market evolved from one where banks extended loans to borrowers, to one where banks extended loans but those loans were securitized and sold off as bonds. The government sponsored enterprises Fannie Mae and Freddie Mac were created to assist banks in doing this, by stamping the bonds with a guarantee of timely payment, even if the homeowner was late on their payment.


However in the commercial mortgage market for apartment buildings of 5 or more units, Fannie Mae and Freddie Mac do even more than this. Essentially they lend their own money and then securtize the bonds themselves, leaving banks to handle the servicing (ie. billing etc.) of the loan. They have come to dominate the market for apartment lending[citation needed]. The financial institutions who work to obtain the loans for Freddie Mac or Fannie Mae are then primarily agents, and for this reason this area of lending is known as Agency Lending.


Conduit Mortgages

Beginning in the mid 1990s, conduit loans, or commercial mortgages which are designed to have very standardized guidelines so as to facilitate them being sold off as commercial mortgage backed securities, have become popular. This has been part of a trend in the Investment Banking industry to become more "vertically integrated". That is, instead of helping banks and other lenders to provide fix rate products and replenish funds by selling off loans as bonds, investment banks have taken to making the loans themselves, and then selling the bonds themselves. In fact, many times the Investment Banks make little or no money on the loan itself, and only make money by the selling and trading of bonds. For this reason, these forms of loans are usually at a better interest rate then is possible through other forms of Bank lending.


However, there are downsides to this program. Investors in commercial mortgage backed securities want to ensure that their investment will remain at a fixed rate for a fixed period of time, and will not tolerate prepayments without adding a premium onto the interest rate (unlike bank lenders who will accept pre-payments after a certain amount of time). Therefore, for a borrower to prepay a conduit loan, the borrower will have to buy enough government bonds (treasuries) to provide the investors with the same amount of income as they would have had if the loan was still in place. This is known as a defeasance. When a property defeases, the bond it is in will increase in value since the higher risk real estate collateral is being replaced with lower risk US treasuries. Defeasance, or defeazance (Fr. ...


See also

Credit as a financial term, used in such terms as credit card, refers to the granting of a loan and the creation of debt. ... A loan is a type of debt. ... This article does not cite any references or sources. ... Annual Percentage Rate (APR) is an expression of the effective interest rate that will be paid on a loan, taking into account one-time fees and standardizing the way the rate is expressed. ...

External links

  • Nevada Commercial Mortgage Resource
  • US Commercial Mortgage Guide
  • UK Commercial Mortgage Guide

  Results from FactBites:
 
Commercial mortgage - Wikipedia, the free encyclopedia (793 words)
A commercial mortgage is similar to a residential mortgage, except the collateral is a commercial building or other business real estate, not residential property.
Commercial mortgages are typically nonrecourse, that is, that in the event of default in repayment, the creditor can only seize the collateral, but has no further claim against the borrower for any remaining deficiency.
Commercial Mortgage loans are almost always designed to be underwritten based on entirely on the attributes of the property being mortgaged, as opposed to the credit attributes of the borrower.
Commercial Mortgage LTV Ratios (313 words)
However, if the borrower is applying for a second mortgage, then the "underwriter" (the person who determines whether or not the loan qualifies) should insert the sum of the first and second mortgages in the numerator.
Similarly, if the borrower is applying for a third mortgage, then the underwriter should insert the sum of the first, second and third mortgages into the numerator.
Mortgage brokers are often asked by real estate agents and buyers to base their loan on the appraised value rather than the purchase price.
  More results at FactBites »

 
 

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