Seventy-five percent of the time when a developer calls a commercial mortgage broker to help him place a commercial construction loan - that deal is NOT do-able. Why? Because the developer doesn't have enough equity in the deal. He doesn't have enough skin in the game.
"Gee, George, how can you make such a blanket statement like this? How could you possibly know that the developer doesn't have enough equity? Are you the Great Oracle of the Indiana Cornfields?"
Answer: Banks love-love-love to make commercial construction loans, assuming the world needs what the developer is trying to build - like more office space in San Francisco. Banks love to make construction loans because they are short term loans and because they very profitable. Why are construction loans so profitable? Because the bank immediately earns one to two points up-front on the entire loan amount, even though the developer's first draw might only be for a few thousand dollars.
Therefore any developer with half a brain calls a local bank long before he calls a mortgage broker. And if the banks wants to make construction loans, yet it turns the deal down anyway, there has to be a reason. Ninety percent of the time that reason will be because the developer doesn't have enough of his own - or his partners' - money in the deal. Rather than try to raise more equity, he tries a mortgage broker.
Therefore, if you are a mortgage broker, the first thing you have to do, before you waste a lot of time, is to determine if the developer has enough equity in the deal. But what counts towards the developer's equity? It is the sum of the following:
- The developer's cash down payment on the purchase of the land.
- It does NOT include the principal and interest payments on the land loan used to buy the land. Payments on a land loan don't add value to the project. In theory, a developer is supposed to pay cash for the land.
- But definitely include any appreciation in the value of the land since the buyer purchased it, either because of time (maybe the developer wisely bought the property in 2009 at the bottom of the market) or because of the happening of some external event, such as the completion of a freeway off-ramp on the subject strip or the opening of a nearby Wal-Mart.
- Any increase in land value due to a zoning change or use change.
- Any increase in value of the land due to assemblage. Sometimes an assembled parcel is worth far more than the sum of the purchase prices of the various parcels. Imagine a developer who is able to buy six ugly, old rental houses along a busy strip and combine them into a site large enough for a modern new strip center (called a mini-mall in Southern California).
- Any monies already expended for architect's fees.
- Any monies already expended for engineering fees.
- Any monies already expended for legal fees, especially when used to get the zoning or use changed.
So how much equity is enough? Generally a developer has to cover 20% of the total cost of a project.
Don't forget, when you are computing the Total Project Cost, to include such Soft Costs as the Interest Reserve, any loan points, appraisal fees, toxic report fees. structural engineering reports, plan check fees, and utility hook-up fees. Any of these fees that are prepaid count towards the developer's equity in the project.
Remember, the developer, or his equity partners, must contribute at least 20% of the Total Project Cost. If the property is a business property, such as a hotel, restaurant, or marina, the developer may have to contribute 30% to 40% of the Total Project Cost.
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When I teach commercial real estate finance, I try hard to use simple terms (baby language), lots of repetition, and tons of examples. Although I ended up graduating from law school with honors and passing the California Bar on my first attempt. I also remember driving my law school instructors absolutely crazy with questions. "I'm sorry, Judge, but I don't get it." So my training courses are intentionally aimed at folks of average intelligence (like me). I truly believe the best thing you can do for yourself in this business is to take my classic 9-hour training course. Countless successful brokers have sought me out at trade shows to shake my hand and thank me for this course. Heck, I expected to be dead by now (heart problems), so I created this program with great care to train my two wonderful Eagle Scout sons after my death. God bless modern medicine! Ha-ha!
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C-Loans is now placing business loans, rather than simply commercial real estate loans.
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I don't get you guys. You are so focussed on saving the borrower 1/2% on the interest rate that you forget that the borrower's business actually needs money. If they had money right now, they could triple it in 18 months. And you're risking everything to try to save them 0.50%? Really? Are you retarded? Blackburne & Sons will issue your client a Loan Approval Letter for free! We're thrilled to do this because we know that 60% of the time your best bank will leave your borrower standing at the altar looking stupid. Your borrower needs money!