# Commercial Loans Blog

How can you tell if a commercial construction loan request is dead on arrival?  The most common reason why a bank will reject a commercial construction loan is because the developer has not contributed enough equity.  Quick aside:  Ninety-nine percent of all commercial construction loans are made by banks.  What constitutes equity?  I recently wrote an excellent article on equity for development projects.

Here is a quick napkin test that will tell you whether or not you should waste your time working on a construction loan request.  Compute the Loan-to-Cost Ratio by simply dividing the Construction Loan Request by the Total Cost of the project.  The Loan-to-Cost Ratio must be 75% or less in the post-Great-Recession market.  Put another way, the developer must pay for at least 25% of the Total Cost.

Because I've been doing this for 37 years, I can compute a Loan-to-Cost Ratio in less than one minute; but maybe a quick review will be helpful for you. The Loan-to-Cost Ratio ("LTC") is defined as the Construction Loan amount divided by the Total Cost of the project (all multiplied by 100%).

Loan-to-Cost Ratio = Construction Loan / Total Cost

Historically banks were satisfied if the Loan-to-Cost Ratio was 80% or less.  In other words, banks were satisfied if the developer was paying 20% of the Total Cost.  That 20% of the Total Cost represented his equity or, in the parlance of commercial mortgage finance, his skin in the game.  Unfortunately after the huge losses suffered by banks in commercial construction lending during the Great Recession, most small banks today limit their loan-to-cost ratios to just 65% to 72%.

The big banks, when making the really large commercial construction loans (\$20 million+), limit their loan-to-value ratios to just 55% to 60%.  Fifty-five percent???  Yup.  Ouch!  How can a developer come up with 45% of the Total Cost?  There is a type of equity called gap equity, that takes a developer from 55% LTC up to 80% LTC.  I hope to blog on the subject soon.

Now in order to compute your Loan-to-Cost Ratio, you will need to know the Total Cost. Total Cost is defined as the sum of the land cost, the hard costs, the soft costs, and the contingency reserve (5% of hard and soft costs).

Total Cost = Land Cost + Hard Costs + Soft Costs + Contingency Reserve

Most developers underestimate their Soft Costs.  The Soft Costs include such things as architectural fees, engineering fees, report fees (environmental impact reports, appraisals, toxic reports, geological reports, surveys, etc.), governmental fees (plan check fees, inspection report fees, sewer hook-up fees, etc.), bonding fees, title commitment fees, attorneys fees, loan fees, mortgage broker fees, and the interest reserve.  Everyone underestimates the interest reserve.   Soft costs usually range from 40% to 55% of hard costs.  If you don't trust the developer's soft costs, use at least 40% of the hard costs for soft costs.

The Contingency Reserve should be 5% of hard and soft costs.  Why not 5% of the Land Cost as well?  Most developers already know the exact cost of the land.  There is unlikely to be a cost overrun on the land.

Are you a wealthy developer or investor?  The sister company of C-Loans, Inc. is Blackburne & Sons Realty Capital Corporation.  We have been selling 8% to 12% first mortgage investments to wealthy private investors for 37 years.  We currently have around 1,500 private investors, and we are servicing a portfolio of over \$50 million.  Due to a recent law change (JOBS Act), Blackburne & Sons can now accept investments from accredited investors (gotta be accredited) as small as \$10,000 in each loan from anywhere in the country, not just California.

This is a family firm.  I'm George III, the founder and the dad.  I am a licensed attorney in both California and Indiana.  My sons, George IV (Ohio State) and Tom (Purdue), are both Eagle Scouts, as am I.  Cisca and I have been married for 34 years.  (My staff have nominated poor Cisca for sainthood.  Ha-ha!)  My point is that we are steady-eddie folks.

You should sit on our investor mailing list for a couple of years and then someday try us with a tiny investment (as small as \$5,000 in your first deal) in one of our loans.  We are not a fund!  Hard money mortgage funds tend to (85% of the time) fold up with ugly consequences during bad recessions.  In contrast, if you invest with us you will actually own, say, 7%, of the first mortgage.  But you must be an accredited investor!

You need a commercial real estate loan, and you have diligently been doing your research.  Is it finally time to actually apply for that commercial loan?

For just \$79.95 you can buy a recently updated list of over 2,500 commercial lenders.  If money is tight, you can buy a Regional List (750+), for the region that contains the property in question, for just \$39.95.

Many commercial mortgage brokers are excellent salesmen, but they starve because they make a dozen preventable mistakes every single day.  This 5-hour course in the Practice of Commercial Mortgage Brokerage contains more than 60 practical lessons in commercial mortgage brokerage.  I consider it to be the crown jewel in my training series, the best of my life's work.  It is the only course I sell that comes with a 100% satisfaction guarantee.

Do you need a business loan secured by accounts receivable, inventory, or equipment.  Do you need a lease to acquire some piece of equipment?

We have a superb multifamily program with "A" quality rates for deals with a tiny black hair on them.

Blackburne & Sons, my own hard money shop, offers bridge loans for just 1 point.

Every commercial mortgage broker should use a fee agreement on every commercial loan.  Our agreement is quite short, and it is fair to both the borrower and the mortgage broker.  You commercial mortgage brokers will kick yourself when you lose a \$20,000 fee.

Do you own a real estate or mortgage website?  By simply putting a "Commercial Loans" link to C-Loans.com on your web site, your web site can work day and night to generate referral fee income.  We once paid \$21,250 to a guy named Alan Dunn.  Somebody came to his website, saw a "Commercial Financing" link, clicked on it, came to C-Loans.com, and then applied for \$17 million loan.  Alan was asleep at the time!  (We actually have no way of knowing that, but Alan certainly could have been asleep, and it makes for a great story.  Ha-ha!

Have you tried our latest commercial mortgage portal?  CommercialMortgage.com has four times more lenders than C-Loans.com, and it is far easier to enter a deal.

Is it finally time to actually learn the profession that you practice?  Just sayin'...

Did you learn something today?  Get two free training lessons in commercial real estate finance every week.

Got a buddy or a co-worker who would benefit from free training in commercial real estate finance (CREF)?

This training article will teach you the difference between a commercial bank and an investment bank.  We will also discuss merchant banks.

Recently C-Loans.com introduced a pretty cool offer.  If you give us the contact information of just one loan officer at a bank making commercial real estate loans, we will give you a free list of 750 commercial lenders.  Heck of a deal.  But guess what?  Some rookie commercial mortgage brokers have been inserting their own names in place of a bank loan officer.  Huh?

There are two issues here.  First of all, unless you have your own money to lend, and unless you service these loans, you are not a lender.  Life companies get money to loan from insurance premiums.  Banks, credit union unions, savings banks, and hard money mortgage pools get their dough to lend by accepting deposits.  It seems simple, but people often forget that in order to be a lender, you actually need to have money to lend; otherwise, you're just a broker.  Secondly, a commercial bank is an institution that accepts deposits and whose deposits are insured against loss by the FDIC.  Hellooo?  Unless your deposits are insured by the FDIC, you are not a commercial bank.

Okay, so what is an investment bank?  Historically an investment bank was an institution that took companies public.  In other words, an investment banker, like Barings Brother (established in 1782), sells a company's stock to the public and maintains a market in the stock.  Maintaining a market in a stock means matching buyers and sellers, and in a sudden panic (e.g., Napoleon conquers Northern Italy), buying some shares itself to prevent a total rout in the stock price.

Investment banks aso sell bonds for large corporations and various governmental entities, like the Federal government, states, counties and large municipalities.  For example, suppose you're CIT Financial (a huge business lender), and you are bullish on the economy.  You want to borrow \$1 billion from the public at, say, 3%, and lend it out to middle market companies at 7.5%.  By the way, a middle market company is a firm with annual revenues of between \$50 million and \$1 billion.  CIT Financial might retain Morgan Stanley, an investment bank, to issue and sell its bonds.

Examples of investment banks include Goldman Sachs, Morgan Stanley, Barings Brothers (bankrupt and dissolved), Lehman Brothers (bankrupt and dissolved), Credit Suisse, Merrill Lynch (now owned by Bank of America), Deutsche Bank, and Nomura.  In its simplest terms, you can think of an investment bank as a stock broker.

Okay, then what is a commercial bank?  First of all, the word "commercial" merely means "business". The garden-variety banks that you see on the main thoroughfare going through your town are called commercial banks, to distinguish them from investment banks and merchant banks.  A commercial bank is a company that accepts deposits and uses those deposits to make loans to companies and consumers.  These deposits can take the form of a checking account, a savings account, or a certificate of deposit (C.D.).  These deposits and C.D.'s, up to \$250,000 per depositor, are insured against loss by the Federal Deposit Insurance (FDIC).

The name of every commercial bank contains the word, "Bank", 99% of the time at the end of the their name; e.g., Oak Bank or Granite Bank.  It is highly illegal for any other type of company to include the word, "Bank" or "Bancshares", anywhere in their name.  A lot of commercial mortgage brokers make this mistake, and they end up getting hit with a serious fine.

Now what is a merchant bank?  A merchant bank is a financial institution that provides capital to companies in the form of share ownership instead of loans.  The reason why a merchant bank wants to buys shares instead of making loans is because the types of deals that a merchant bank invests in are incredibly risky.  For example, in the late 1700's and early 1800's, a merchant bank might provide 100% of the cost to finance a trading ship to take British goods to India and trade them for Indian gold, Chinese silks, etc.  The merchant bank might expect to make 500% on its investment. Modernly a mechant bank might invest in a late-stage round of venture capital funding.

But here's the truth of it:  There are very few, honest-to-goodness, merchant bankers.  I would not fall off my chair if there were fewer than 200 legitimate merchant bankers in the entire country.  If you ever meet a guy at a mortgage conference, and he claims to be a merchant banker, there is a 90% chance that he is either a big blowhard (who has no clue what a real merchant bank is) or he is an outright con man.  If you ever meet a "lender" boasting that he is a merchant banker, there is a 99% chance that he is an advance fee scammer.  I once wrote an excellent article on how to spot advance fee scammers.

You need a commercial real estate loan, and you have diligently been doing your research.  Is it finally time to actually apply for that commercial loan?

For just \$79.95 you can buy a recently updated list of over 2,500 commercial lenders.  If money is tight, you can buy a Regional List (750+), for the region that contains the property in question, for just \$39.95.

Many commercial mortgage brokers are excellent salesmen, but they starve because they make a dozen preventable mistakes every single day.  This 5-hour course in the Practice of Commercial Mortgage Brokerage contains more than 60 practical lessons in commercial mortgage brokerage.  I consider it to be the crown jewel in my training series, the best of my life's work.  It is the only course I sell that comes with a 100% satisfaction gurantee.

Do you need a business loan secured by accounts receivable, inventory, or equipment.  Do you need a lease to aquire some piece of equipment?

We have a superb multifamily program with "A" quality rates for deals with a tiny black hair on them.

Blackburne & Sons, my own hard money shop, offers bridge loans for just 1 point.

Every commercial mortgage broker should use a fee agreement on every commercial loan.  Our agreement is quite short, and it is fair to both the borrower and the mortgage broker.  You commercial mortgage brokers will kick yourself when you lose a \$20,000 fee.

Do you own a real estate or mortgage website?  By simply putting a "Commercial Loans" link to C-Loans.com on your web site, your web site can work day and night to generate referral fee income.  We once paid \$21,250 to a guy named Alan Dunn.  Somebody came to his website, saw a "Commercial Financing" link, clicked on it, came to C-Loans.com, and then applied for \$17 million loan.  Alan was asleep at the time!  (We actually have no way of knowing that, but Alan certainly could have been asleep, and it makes for a great story.  Ha-ha!)

Have you tried our latest commercial mortgage portal?  CommercialMortgage.com has four times more lenders than C-Loans.com, and it is far easier to enter a deal.

Is it finally time to actually learn the profession that you practice?  Just sayin'...

Did you learn something today?  Get two free training lessons in commercial real estate finance every week.

Got a buddy or a co-worker who would benefit from free training in commercial real estate finance (CREF)?

Topics: Commercial bank