class 5 pp: Real Estate Debt Financing Flashcards
which step is this in the REI process?
developing a financial analysis
leverage effect
Adding leverage (financing) to an asset or company will act as a multiplier to the return generated by the asset or company
The greater the amount of leverage the greater the multiplicative effect
why do many investors add financing to their real estate assets
to obtain a higher returns
because of the leverage effect
how do you calculate return on equity without leverage?
(profits of sale + NOI - Interest) / (purchase price - loan)
Nominal or Loan Amount
principle balance due on the loan
i.e. the amount owed
maturity date
the date at which the loan is repaid in full
term
The period of time for which the loan is made
interest rate
percentage rate applied to the outstanding principal balance charged by the lender
fixed rate
interest rate set at the start of the loan
Variable or Floating Rate
interest rate is reset periodically
what is the difference between fixed rate and variable or floating rate
Variable rates are lower than fixed rates at the start of the loan but could increase beyond the initial fixed rate offered
Amortization Period
Period of time over which the scheduled capital repayments will reduce the loan to zero
what if the loan due does not have regular periodic payments of capital?
the borrower will be required to make a Balloon payment for the remaining principle balance at maturity
how does an amortization period benefit the lender?
reduces the risk of the lender over time
reduces reducing the amount of principle owed while maintaining the guarantee (mortgage asset)
in canada, what is the max length of an amortization period?
Generally no more than 25 years in Canada
debt service
the required periodic payments over a year
Includes both interest and required capital payments
call Interest Only or I.O. or non-amortizing loans
loans that do not require principal repayment prior to maturity
Payment is equal as interest, meaning there isn’t any capital payments
what are the type of term loans
Mortgage loans
Unsecured or corporate loans
mortgage loans
Guaranteed by the asset
types of mortgage loans
Recourse loans
Non-recourse loans
Unsecured or corporate loans
Secured only by the corporate credit and not one specific asset
Recourse loans
not only guaranteed by the mortgage on the property but also by a claim over the entity’s other assets
mans takes massive L if he cant pay back loan
this can greatly reduce the risk of a loan
Non-recourse loans
solely guaranteed by the property
If the borrower defaults and the value of the property is insufficient to recover the loan amount it is the lender which suffers the additional loss
construction loans
Lender advances funds to pay for the construction costs as they are incurred, as opposed to one lump-sum
construction draws or draw-downs
advances to fund construction costs
when does a construction loan lender make his advances?
typically 6 months to 3 years prior to the costs that will be incurred
interest capitalization
At the end of each month, the interest is not paid by the borrower, but added to the outstanding principal balance
in construction loan
till when can a construction loan extend to?
to the period of time it takes to lease-up a property and stabilize its cash flows
what are construction loans generally repaid from?
from the proceeds of sale of the property or from the proceeds of a term loan
true or false
Construction loans are variable interest rate loans
true
what are bridge loans used for?
Used to finance a property being repositioned in the market
how long are bridge loans?
Typically short-term: 1 or 2 years
what type of interest rate do bridge loans usually have?
Usually with a variable interest rate
what does it mean for bridge loans if they command a higher interest rate?
riskier
on which important metrics does the amount a lender will be willing to lend dependent on?
Loan to Value (LTV)
Debt Service Coverage Ratio (DSCR)
Loan To Value Ratio (LTV)
measures the value of a loan against the value of the property
what is the Loan To Value Ratio (LTV) used for?
used to ensure that the liquidation of the asset, if necessary, will generate enough cash to repay the loan
how is the LTV calculated?
calculated by dividing the amount of the loan by the property value
where do commercial real estate loan LTVs generally fall into?
generally fall into the 65% to 80% range
Debt Service Coverage Ration (DSCR)
measures the property’s ability to generate enough cash (NOI) to make the required debt payments
how do you calculate the Debt Service Coverage Ration (DSCR)
is calculated by dividing the NOI by the loan payment amount (capital and interest) for the year
what does a DSCR of less than 1 indicate?
a negative cash flow
ex: a DSCR of .92 means that there is only enough NOI to cover 92% of annual debt service
what doe commercial lenders usually look for in DCSRs?
DSCRs of at least 1.25 to ensure adequate cash flow
what are non-financial risks that financial lenders also consider?
operational risks
tenant risks
operational risks
Ability to lease at market rents
Security
Maintenance
HVACC
Services offered
tenant risks
Quality of rent roll
Rollover risk
what are Other risks to consider
Environmental risk
Legal risk
Physical asset risk
Liquidity risk
Market risk
Geographic risk
Other risks
how is the interest rate of a corporate loan quoted?
on an Annual Percentage Rate basis
how do you calculate the monthly interest rate of a corporate loan?
Monthly rate is the APR/12
ex: a loan with an APR of 12% would require monthly payments of interest of 1% (12%/12 months)
how do you calculate the monthly interest rate of a mortgage loan?
- find the effective rate of the loan
- then find nominal rate of that same effective rate
- then divide by 12
how do you find the effective rate of a mortgage loan?
divide the annual rate by 2 which gives two loans of same amoint
and then you find the effective rate corresponding to the two (so rate of the 2 combined)
ex: annual rate is 8%
effective rate will be 8.16%
what do interest rates project?
reflect both the market and the project risk
what does a higher interest rate mean?
The higher the perceived risk
what type of fees can lenders also apply to increase the overall cost of the loan?
Application fees
Origination fees
Standby fees
which lender expenses in underwriting or documenting the loan can also be charged?
Appraisal fees
Legal fees
which fees can happen if you repay the loan early?
Prepayment penalty
Yield maintenance
Defeasance
