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   ARTICLE   |   From Scotsman Guide Residential Edition   |   March 2014

Diving Into the Commercial Market

Moving from residential loans to commercial loans can be worth the effort

Diving Into the Commercial Market

The epic real estate market crash of 2008 left many residential loan officers in search of fresh opportunities. With a maze of red tape now in place, it is more difficult than ever to close residential transactions, especially given the debt-to-income and other regulatory limitations in effect as of this past January.

In light of these circumstances, some residential mortgage professionals have been opting to pursue business on the commercial side of the market. Making the leap from residential loans to commercial loans can initially be a daunting experience, but the end result is often worth the effort.

Although opportunities in the commercial mortgage sector are available to residential professionals, they require education to take proper advantage of. The following differences between the commercial market and the residential market are critical to understand. 


At first, making the leap from residential loans to commercial loans may seem like a “no-brainer” way to earn more fee income, considering the comparatively large loan sizes of commercial properties. These typically are valued in the millions of dollars, much more than most residential properties, which are usually less than $1 million. Mortgage professionals should know, however, that this difference doesn’t translate necessarily to a huge increase in income.

Whereas residential loan officers typically charge their clients in the realm of 3 points, commercial clients generally are charged 1 to 2 points, depending on the complexity of the loan. Sometimes, the amount will be even less, especially in cases of properties in excess of $10 million. These fees, although not as tightly regulated as those of residential transactions, are regarded as acceptable industry standards.

The moral of this story: Commercial lending is not a “get rich quick” solution to the mortgage-broker blues. Still, considering the loan amounts in question and the number of available deals, the commercial market’s income opportunities can be well worth your effort.


One recurring misconception among residential mortgage professionals is that a commercial property takes four to six months to close, which is why many of them shy away from the commercial sector. The residential market generally offers closings that take place in a matter of weeks, not months.

Although any loan — commercial or residential — can run into challenges that extend the closing beyond the target date, many commercial transactions close within 30 to 60 days. The reason it takes longer is that commercial property appraisals are much more complex than their residential counter-parts, taking into account not only area-comparable sales but income valuations, as well as possible environmental reports.


Residential brokers looking to make the leap also should familiarize themselves with the concept of a property’s debt-service coverage ratio (DSCR). Unlike residential properties, a commercial property must meet DSCR requirements to qualify for funding.

DSCR is like debt-to-income requirements for residential loans, but more complicated. It takes into account the property’s income eligibility, including expenses such as utilities, maintenance and current interest costs. Although a property may generate $500,000 of revenue per year, all of the expenses associated with that property must be deducted to determine the net operating income necessary to qualify for the loan.


Property quality is also important. Many lending institutions will accept only high-quality properties with excellent, provable incomes and exceptionally well-heeled borrowers. For these lenders, a property not only has to qualify in terms of DSCR, it also must be in impeccable condition and be located in the right part of town, such as in a major metropolitan area that meets the population requirements set forth by that lender.

The thinking behind this is that if the property should ever go into default, the lender should be able to operate it profitably and sell off the portfolio expeditiously with little risk of losing its investment. In stark contrast, some lenders favor slightly distressed properties with imperfections in the deal, such as issues with borrower credit or property income, and will charge higher rates and fees to compensate.

Loan amounts and terms

The loan amount is a chief consideration in underwriting commercial loans. Many commercial lenders will not consider loans of less than $1 million or $2 million. That said, this past year has seen a resurgence in small-balance lending for commercial loans of less than $1 million.

Small-balance commercial loans typically carry higher interest rates than large balance loans, but there are stated-income programs available for borrowers, which are often useful for small-business owners who tend to write off much of their income. These products also can assist clients who have properties outside of major metro areas, provided that they keep their properties in good condition.

Loans in excess of $1 million and as much as $5 million offer the best rates and terms. Commercial loans are predicated on terms of three, five, seven and sometimes 10 years, with amortizations of as long as 30 years, with 20 years being the most prevalent offered.

The reason commercial properties are offered on shorter terms than, say, a fully amortizing 30-year residential loan is because of the nature of business itself. There is an ebb and flow to business income that differs from that of a typical residential borrower, who is usually a salaried employee likely to receive regular paychecks for the next 30 years. Given that, a lender looks at the annual historical cash flow of a property and the client’s current cash flow to provide terms, and that lender typically will give the client the loan for three to 10 years.

After the term is completed, clients’ options depend on their payment history. If the client has paid each payment on time and provided satisfactory annual financials to the bank, then the bank likely will offer a renewal of terms based on the index and margin initially outlined in the original loan’s terms and conditions. If, however, the client has multiple late payments, has not maintained the property or has not provided annual financials, the bank likely will allow the note to balloon at the end of the term and ask the client to find financing at a new institution.


The U.S. Small Business Administration (SBA) and the U.S. Department of Agriculture (USDA) government programs are the exception to typical commercial loan terms. These government-backed loans offer borrowers as long as 30-year, fully amortizing terms, as well as working capital and construction funds for expansions and secondary locations. Their rates are typically variable but tied to steady performance indices, an arrangement that often is appealing to commercial loan clients. These programs usually offer favorable terms for clients looking for long-term solutions for their commercial properties.


Marketing for new commercial loans may be easier than you think. A click of the mouse to any of your professional social media accounts is a simple way to get started and doesn’t require a large marketing budget. Making a statement on your business Facebook or Twitter page to indicate that you are seeking commercial clients and sending e-mails to your associates, friends and past residential clients can reap huge rewards in leads. Let potential clients know that you are interested in helping them finance that apartment building or office that they listed on the Schedule of Real Estate Owned section of their Fannie Mae Form 1003.

•  •  •

Making the leap from the residential market to the commercial market is not easy. Even so, after you’ve educated yourself on the differences between the two fields, taken the plunge and then closed your first commercial loan, you might decide that you prefer office buildings, retail centers and apartment complexes to the difficulties of residential red tape.  


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