Qualifying for a Commercial Loan: What are lenders looking for??

Question

Hi all!

It is my current understanding that in order to qualify with most lenders for a commercial loan, the loan applicant needs to be a business entity (i.e. LLC). First and foremost, if this is incorrect - please let me know!

That being said, my follow-up question is:

Okay - so if I need to form an LLC in order to apply for a commercial loan on a property that has 5+ units, what are lenders looking for? Do they look at my personal mortgagee attributes like a residential lender would do (if I was applying under my name)?  Or do they look at the business entity's mortgagee attributes, which... I don't know exactly what those would consist of if this is a new LLC with the sole purpose of purchasing the property in question.

Thanks in advance!

John Blanton · Answer

@Ian Plocky based on the size of the property you are looking at the lender will most likely want to look at the rental income of the property, but also as you mentioned your personal financial standing. You will have to have a decent credit score, enough for the down payment, but also enough in assets/ liquidity after the down payment in case the property runs into issues you can personally cover the costs. Right now banks are a lot more strict in their lending practices and may require a higher % down payment.

Even though the property may be owned in an LLC the likelihood is that you will still need to sign a personal guarantee to be personally liable if the property is no longer able to cover the cost of the mortgage, taxes, etc.

When dealing with smaller properties and local lenders a lot of time if comes down to how stable financially they feel you are as well. Ask the lender detailed questions of what they look for and have a breakdown of allocations of your current assets and ability to cover the mortgage payment even if the property isn't able to cover the expenses/ mortgage. The more details about the property and your underwriting along with a breakdown of your personal financial standing will show the lender how serious you are about the transaction and paying back their note if challenges are to arise.

Steve K. · Answer

It's going to vary drastically depending on the lender, the current market conditions, the property, and your personal financials. Lenders are always switching up products that they offer based on the guidelines their underwriters have set based on the market, which is especially fluid right now. Your best bet is to build relationships with some lenders and check in periodically with them to see what their underwriting guidelines are and what loan products they are currently offering.

I prefer working with local credit unions personally, and right now the ones that I work with are looking for 6-12 months minimum in cash/liquid asset reserves in addition to the down payment (to cover carrying costs with 100% vacancy in a worst-case scenario), 30-40% for a down payment (up from 25% pre-covid), a great credit score, low debt to income ratio, etc. They don't really care if the property is going to be in an LLC or a business entity or not but if it is they look at the financials for the entity, and still look at your personal financials (last few years tax returns, income, credit score, total assets, total liabilities, etc.), and of course the property itself (rent roll/estoppels, expenses/financials, NOI, DSCR, vacancy rate, location, level of stabilization, age, physical condition, etc.).

I always joke with my lenders that they love lending to people who don't need the money. Nobody on here (except commercial lenders I suppose) can tell you what the exact criteria will be or what products you will qualify for.  You need to reach out to them directly, send them your financials/fill out their loan applications and start building relationships. I recommend to my clients who are looking for commercial property that they fill out loan applications with several local lenders and get the ball rolling on the financing side of things early on, so if we want to make an offer or send over an LOI to a seller, the lender can provide a prequalification letter quickly for us to include, and that's what I do for my personal investing as well. By keeping in touch with my preferred lenders regularly, I stay up to date on the current rates and terms being offered, any changes to their underwriting requirements, time period needed for due diligence, etc.

Guifre Mora · Answer

@Ian Plocky

To answer the question in simple form an LLC has no credit history or borrowing power it’s a liability protection tool-a piece of paper.

The real power is in the members as actual credit worthy individuals with good history (or not).

Lenders will look at the property to be a good deal or not.

Is the price justified, does it pay for itself is it stabilized or not.

(Does the numbers make sense)

The borrower should be of good credit worthiness and have a net worth of 1:1 when you are looking for 1m+loans. (Exemptions do apply)

Ultimately the borrower will make sure the lender or any creditors get paid not the LLC as it’s just a piece of paper.

It’s about protecting the investment and the money behind it (loan).

There are non recourse and recourse loans but you still need to qualify and the best way of establishing identity and credit worthiness is a FICO score and assets.

You really don’t need the LLC right away you can do a TBD in the application but the underwriter and legal department will need to review the LLC docs. (I do it for my clients all the time)

As for protecting your personal assets the LLC in this case in the eyes of the lender is not to protect your assets but to protect their asset (the property) because they still would own it until they get paid.

Would you let a tenant move in to a unit of yours with out verifying anything about them and just telling them sign here I’ll see you in a month to collect my rent?

Or Now imagine if you would lend 1m bucks of your own money would you want some security you would get it back?

I have a borrower/property qualifier questionnaire & doc checklist I use to screen my clients and properties I’ll be happy to provide it. It’s a great tool!

John Blanton · Answer

@Ian Plocky I am not an attorney so I won't get into all the nuances of what liability an LLC can or cannot protect you/ your assets from.

If the LLC does not have enough income or assets to qualify for the loan itself the bank will require the lendee to personally guarantee the loan. Yes liability against the LLC could theoretically only have recourse against the assets of the LLC, but the personal guarantee you would need to sign would allow the lender to come after your personal assets if the property were unable to continue to pay the mortgage.

There are non-recourse loans that would preclude the lender from coming after your personal assets, but many times those loan balances begin at least $1 million. There are different terms and requirements for those type of loans.

Ronald Rohde · Answer

Theres a lot going on in this thread. I'd recommend you hire someone to review actual documents because general advice is great until it doesn't apply to your situation.

There are limits on a personal guaranty that may also be available.

Guifre Mora · Answer

@Isaac S.

What you are commenting is Lender specific is it normal yes but it doesn’t need to be. Some lenders have expensive fee structures other are reasonable.

I’ve seen it all.

15k due diligence deposit plus lenders points and broker points.

36k closing cost on a 375k loan plus escrow.

I can go on.

Yield maintenance: you have to see it in the eyes of the lenders or (investor) it costs money to originate loans & service them. Investors [the actual owners of the loan] want certainty they will make their money and originators and servisers take a small percent of the interest (commission) upfront if they loose the loan they get a clawback in their commission.

so lenders originators and servisers will clamp prepayment penalty or yield maintenance.

You can pay higher rates or rate buy down to lower or avoid this YM/prepayment.

Mary M. · Answer

Issac suggest you talk to a commercial loan broker...  they will have access to various options....however, in this crazy time criteria is tightening up and the lenders are looking for 6-18months of PI and  possibly a years worth of taxes all paid up front....

as for entities.... a entity member is  able to contribute funds into that entity...  so nothing odd about that....

Brandi K. · Answer

@Ian Plocky They will look at your personal tax returns and your debt coverage ratio.  Most commercial lenders are looking for a minimum of 1.20 DSCR.  You will also want to ask them if they will give you credit and how much for the rental income the property currently generates.

Ian Plocky · Answer

@John Blanton, thank you so much for responding. I greatly appreciate it!

You mentioned 'but also enough in assets/ liquidity after the down payment in case the property runs into issues you can personally cover the costs'. That makes intuitive sense, but there is something about that also feels funny - an LLC is supposed to protect your personal assets. Using that logic, it feels contradictory that you would need to supply your personal assets as proof/collateral that you can pay for the property. Is there a circumstance where a lender would look at your personal assets in order to qualify you for the loan, but not be able to come after your personal assets in a lawsuit (if LLC)?

'

Douglas Harris · Answer

If starting a new business they'll need your credit score, current income vs. expenses, list of assets, downpayment, business plan, experience with this business idea, whether it's an SBA loan or conventional.  If investing they'll look at the financials of the business plus everything above.  It certainly helps to have your banking relationship with that bank.  Bigger banks may make you jump through more hoops, local lenders likely loan less money and doing fewer and smaller transactions and may have fewer requirements.

Qualifying for a Commercial Loan: What are lenders looking for??

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