Unlocking the Mysteries of Financing in Self-Storage Part 4

The last things that we are going to talk about in terms of financing are loan restrictions, debt coverage ratios and loan fees. Each of these things can affect your loan. You want to make sure that you understand what they are before you sign any loan documents.

First, lets talk about pre-payment penalties. Many loans have pre-payment penalties written into them. This ensures the lender a certain amount of interest before you get a new loan. You want to be aware of how long it will be before you can refinance or sell your property without a penalty. If you are going to sell the property during the pre-payment penalty, make sure that you figure that penalty into your numbers.

Another common loan restriction is that you must maintain the value of your property, or your loan can be called due. Most commercial conventional loans have to be refinanced every 7ish years. This means that you have to maintain the value of your property. If you don’t, then you will either have to bring more money to the table when you get your next loan or you will have to sell the property in order to pay off your balloon payment. For example, if you buy a property for $3,000,000 and you put down 30% to get the loan then this means that you borrowed roughly $2,100,000. When it is time to refinance, you need the property to still be worth $3,000,000 or you may not be able to borrow another $2.1M. If the property has depreciated to $2.7 million, then the bank may only lend you about $1.9M to refinance your $2.1M loan. You would have to make up the difference. With this loan covenant, even if you were current on your mortgage payments as soon as your property value dropped, the loan would be called due.

The debt coverage ratio is something that commercial lenders look at to evaluate whether or not you can afford your monthly mortgage payment. They want the cash flow of the property to be able to make the mortgage payment. They often use this ratio as way to determine how much to lend to you. A common debt coverage ratio number the bank is looking for is 1.25. This means that your income has to cover the debt and an additional 25%. So, if your annual mortgage payments are $100,000 then your company needs to have an annual net operating income of at least $125,000.

Loan Origination fees are part of any loan. The amount of the origination fee will depend on the lender and on your interest rate. When you are looking an SBA loan, then you need to know that you will also be paying a 2.5% fee for receiving this loan. This is not a negotiable number. Your lender may charge a loan origination fee on top of that SBA loan fee. While it may seem like a more expensive loan, because you are able to keep the loan for 25 years instead of having to refinance, it can save you money in the long run.

These are all important loan conditions that you need to know when approaching a commercial lender. You should verify whether or not the loan that you are being offered has any of these conditions prior to signing. As always, happy investing.