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   ARTICLE   |   From Scotsman Guide Residential Edition   |   November 2007

Take It to the Other Side

Small-balance commercial loans often are within reach

Every week seems to bring another round of bad news about the residential mortgage market. Brokers accustomed to the housing markets of recent years are facing seriously reduced volume and income.

Now might be the perfect time to move your business in a new direction — into small-balance commercial mortgages. These are typically loans of less than $5 million for multifamily, office, retail and similar properties.

Unlike today’s challenging residential market, small-balance lending is growing each year. Even better, small commercial loans can be more lucrative than residential loans. The fees can be between $6,000 and $10,000 in upfront deposits.

Is brokering these loans right for you? Read on.

Never a dull moment

Whether residential or commercial, the role of a mortgage broker remains essentially the same —  connecting borrowers with the right financing. But commercial mortgages are usually more complex and challenging. Residential brokers who switch to commercial loans are constantly learning new things.

That’s because each commercial property and loan is unique. For example, there may be an easement on the property around which the title company will not insure. Or tenants might have month-to-month leases that the lender will not include in calculating the property’s net income. Successful commercial brokers tend to thrive on a steady diet of problem-solving.

The learning curve

Making the move to commercial mortgages can present a steep learning curve partly because there are differences between residential and commercial loans that many brokers initially find confusing.

First, most commercial loans are quoted in spreads over U.S. Treasury bonds, as opposed to the all-in interest rate at which residential mortgages are quoted. For example, a commercial lender will quote the rate on a small-commercial loan as some number “over the five-year Treasury.” Brokers need a live update of Treasury bond rates so they can accurately present pricing to borrowers.

Second, analysis and reporting for commercial properties is much more extensive. It includes reviewing the lease for every unit and the creditworthiness of every tenant, in addition to assessing potential environmental issues, evaluating if the property meets building codes and so on.

Third, although many of the basic mortgage concepts are similar, the terminology is different. While an experienced residential broker can quickly calculate a homebuyer’s debt-to-income ratio, a commercial broker must understand the real estate behind the loan. The borrower’s credit is only one part of the overall lending consideration.

Further, the lender will analyze the property’s debt-service-coverage ratio, which is its annual net operating income divided by its total annual debt service. This may sound simple, but a commercial property’s net operating income is defined as the income actually being collected minus the operating costs, such as taxes, insurance, leasing and maintenance. The strength of the surrounding market and other factors also play a significant role in a commercial property’s overall value.

There are many ways a broker can scale the learning curve, such as tapping online resources, taking classes and choosing a good lender.

The right financing partner

A lender that can help educate you and that can deliver for your clients is an invaluable asset in making the transition from residential to commercial mortgages. Key considerations in choosing a financing partner include:

  • Accessibility: Have you spoken to the lender? Are calls returned promptly? Is the staff happy to explain the process and answer your questions?

  • Experience: Does the lender have a team of experienced people dedicated to small-balance commercial loans?

  • Product mix: Does the lender offer a range of flexible options to meet your clients’ needs? Streamlined process: Can the lender provide a commitment upfront (subject to underwriting review)? How efficient is the lending process? Forty-five to 60 days from start to finish is typical if the lender and broker work together.

  • Reliability: Will the lender deliver as promised? Ask for broker references, and call them.

Take the right steps

As with any new initiative, building a commercial mortgage business requires a strategy and a business plan.

Start by targeting a type of smaller commercial property in which to specialize. Being open to any commercial transaction may sound more promising, but the differences between property types can make it difficult to develop expertise and target your marketing efforts. Focusing on a single property type will help you build knowledge and relationships. 

Your business plan also should identify sources of potential leads. You probably already have a solid base of leads with which to start — Realtors. Many Realtors sell residential and commercial properties, especially in smaller markets. Most buyers turn to their Realtors for referrals to mortgage brokers.

You may also want to approach former clients, some of whom may be thinking about buying commercial properties and would welcome working with you again.

Don’t limit yourself geographically. Once you have some experience in commercial loans and create a strong, well-optimized Web site, the Internet can easily put an entire region within reach.

•  •  •

With the residential market so volatile, there has never been a better time to consider focusing on the growing opportunities, interesting challenges and enhanced revenue potential of commercial loans.


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