Let your lender know everything up front!

If you are a mortgage broker and you are trying to figure out ways to help your lenders close and fund your loans we recommend that you try full disclosure when you approach any lender with your loan request. We recently had a situation where a refinance transaction was brought to our company and from all indications it was an easy deal to fund.  It was a full doc loan; the borrower had a 700 FICO score; it was owner operated; and it looked like a clean and easy deal.  Unfortunately after we issued a conditional loan approval we found out the following:

1. The submitting broker had collected $4,000 from the client and never really explained what the $4,000 covered.
2. The mortgage broker who brought this loan request to us had also submitted this transaction to a hard money company who charged the client a $6500 application fee and an additional $5,000 for an appraisal which we questioned its scope of work and we did not feel comfortable using.   
3. The submitting broker never mentioned that another broker existed when he brought the deal to our company.
4. Both daisy chain brokers had been working on this particular project since November 2009 and the transaction was a short sale refinance and the documentation provided indicated that it was a short sale but it was never signed by the lien holder.

We started working on this loan request during the third week of May and by June 17 we felt comfortable to issue a conditional loan approval that required a new appraisal and hybrid environmental report. After 60 days we finally received a phone call from the borrower that he was not going to pay for the new appraisal; he was not going to pay for the new hybrid environmental report; and he was not going to sign our conditional loan approval unless we increased his loan amount; removed his wife from signing loan docs at closing; and we could promise him that we could close and fund within 20 days once he signed.

After several discussions with the original broker we decided to pass on this loan request.  Now through the entire loan process we did everything we could to facilitate this loan request because it did make sense. We were using private hard money to refinance the loan and pay the short sale discounted price which would have saved the client almost $1mm, and if the client did not like the interest only payments from the private mortgage we had structured the loan with no prepayment penalties so that within 90 days we would refinance the borrower with our SBA 7a program into long term mortgage that would reduce his payments dramatically.  Unfortunately after trying to let the client know that we were doing everything in his best interest he was jaded and did not trust anyone.  

So if you are a mortgage broker and you want to build a long term relationship with your lender full disclosure is required by you.  If you provide an executive summary indicate if you have collected a deposit and explain your reasons. If you have submitted to 5 other lenders indicate this in your executive summary.  If you have been working on this loan request for over 6 months let your lender know. Any detail that you can provide upfront will help us determine the best course of action for your particular loan request.

In the long run this will create a lasting relationship that will beneficial for everyone involved and that’s what every lender is looking for.

How to work with any private lender!

1. Provide us complete and accurate information on your deal.  Include tax returns, operating statements, rent rolls both current and historic, and tell us why the deal makes sense.  The rule of thumb on every deal is would you be willing to lend money on this transaction if you had the capability? If the answer is no, then why would we? You need to be objective.
2. If you have a commercial loan application be sure to fill every applicable blank and make sure to sign the application as well.  We are going to pull credit on the borrowers. No exceptions.
3. Provide a concise but complete story on your loan request. Tell us the meat and potatoes of the deal.  Big loan packages go to the bottom and scare us and make sure that the information presented is up to date. Do not send us documents that are over one year old.
4. Do not hide any problems. Tell us where the hair is in the deal.  We will find out and once we do our appetite to do the deal diminishes tremendously.
5. Give us the strengths and weaknesses of the transaction with all mitigating factors.
6. Provide pro-formas and budgets that are realistic.
7. Provide us biographical information including the activities of similar commercial properties in the area if possible.  A similar and successful experience is a big plus when considering a loan request.
8. Address capitalization, sponsorship and liquidity. Where is the money coming from to make the down payment, what reserves are available and provided, what are the sources of cash flow if there is a chance the property can’t cover the proposed debt adequately.
9. Tell us about the market of your commercial property.

The Seven C’s of Commercial Lending

Credit

Your credit has to be good, and problems need to be explained and supported with valid documentation.  Most lenders require a 650 or above mid fico score. Now some lenders will lend with FICO scores between 600 to 640 but when they do you will more than likely pay a higher interest rate on your loan or you can expect to be charged more for the transaction.  Just like the residential business you have subprime commercial mortgage lenders that penalize the borrower for having anything less than perfect credit. Now your credit is probably the most important part of the loan transaction. If your credit is marginal and past history demonstrates that you have always had bad credit, then more likely your loan will not be approved.

Capacity

Your business must be able to support its debts and expenses, and must be profitable.  You need to provide 3 years of business tax returns and the most recent year to date profit and loss statement with your loan request. Lenders are looking for the ability of the business to service its current and future debt and the rule of thumb is to look at the last 3 years of returns. What a lender is looking for is that the business continues to remain profitable every year.  With a profit and loss statement the lender is looking for the cash flow strength of the business. No cash flow, no loan it is that simple.  Even if you try to convince your lender that by giving you this loan you will make a lot of money and pay back the loan it won’t work.

Capital

Money you or your investors are putting in or equity you already have in the business. Lenders will always want to make sure that the borrower(s) have “skin in the game” or what is commonly known as equity. It is basically the amount of risk that a borrower has in the transaction. There is no such thing as 100% financing.  Most lenders want to see at least 20 to 50 percent equity into the transaction and the reason is simple. If something goes wrong with the deal and you have a lot of cash infused into the transaction you will do whatever you can to save the loan and make sure it does not go into foreclosure.  Now just to clarity equity is cash in the deal. It is not equity that has been accumulated because you purchased the land twenty years ago and over time it has not increased in value.

Collateral

The value of the assets that secure the loan. Every lender will require some sort of an appraisal on the subject property it is a necessary evil in the commercial lending business. The appraisal has to be ordered by the lender from a 3rd party vendor that has no relationship in the transaction other than the report.  Lenders want to make sure that results of the report are not skewed or influenced in anyway.  Do not order an appraisal until your loan is approved.

Character

Of the borrower and guarantor(s).  When a lender requests your resume they want to see what you have been doing for the last five to ten years. Your past performance will indicate the probability of future success.  If you have a proven track record of being a real estate investor that can be documented then your loan results should be favorable. If not, then you will have to explain in detail why you are good candidate for this loan.

Conditions

The economy, industry trends, of anything that will affect your business.  Lenders will pass on deals because they will have access to information that will give them the broad picture of what is going in the industry.  For the last two years hotels, motels, gas stations, and car washes have been extremely difficult to finance since they rely on discretionary income from consumers. In other words any real estate transaction that relies on a customer base to stay profitable might be overlooked for financing until the economy gets better.

Commitment

Your ability and your willingness to succeed which involves guaranteeing the debt personally even if the company can’t pay it.  Lenders always want to make sure that their borrower(s) are just as dedicated to getting the loan financed just as they are.  Lenders want to make sure that the borrower(s) have the financial stability to stay afloat during the bad times. Commitment on behalf of a borrower can be the difference between a yes and no approval.  If the borrower is asset heavy but cash poor then you can expect an unfavorable loan decision.

Tax Return Analysis For Improved Loan Closings!

So where do you begin?

Tax return analysis is the key to getting any of your commercial loans financed.  When reviewing a 1040, 1120, or 1065 it is very important that you understand the information that is being presented.  By understanding cash flow you will help sell your deal to an underwriter who will appreciate your due diligence in the loan presentation.  Instead of just packing a file and submitting it to your lender and hoping that the file will get approved you need to make sure that the loan fits within the box.  If you do you will gain a reputation as being a solid loan originator and it will open doors for you with lenders throughout the country.  The alternative if you do not do your homework is you will gain a reputation of being a file pusher and once you submit your loan request it will automatically be put into the declination folder and you do not want that. Only work on good loans and you will earn a very comfortable living at “selling money.”

All Tax Returns Are Basically The Same

Remember all tax returns are basically the same.  A 1040 is for a sole proprietor and should include a Schedule C if self-employed, an 1120 is for a C-Corp, and a 1065 is for a LLC or partnership. All of the income, expenses, personal debt will help you determine the Personal Net Cash Flow (PNCF) of the individual borrower. Once you know the (PCNF) and you determine Business Debts (line of credit, other items on the balance sheet) that are being paid by borrower and you factor in the new loan that he/she is applying for you can determine the individuals DCR for their loan request. And the DCR or debt service ratio will help you figure out if your client can get financed. Let me give you an example on how to figure this out.

Typical Loan Scenario We See Every Day!

You have a borrower that wants to buy an office building for $540,000.  He has 20% for his down payment and you ask him for three years of his personal tax returns. You look at their tax return and you notice that their income continues to rise every year and that is a good thing.  If your borrowers tax return income declines year after year then you probably won’t get the file financed through conventional or SBA financing. You are better off trying for a private hard money loan.  Anyway you review the information and determine the following:

You add all the figures and his total income if $175,300 for the year. You then review his deductions and determine the following:

• $30,000 in living expenses
• $22,498 in federal income tax
• $1219 in state income tax
• $3850 in property/ other taxes.

You add all the deductions and the figure is $57,657. Now you look at his personal debts and they are:

• $12,800 mortgage payments
• $24,600 investment mortgage

You calculate the information and his personal debts are $37,400.

So now you take his total income ($175,330) subtract deductions($57,567) subtract personal debts($37,400) and calculate his Real Personal Net Cash Flow ($80,353).  Wow a big difference from $175,330! You are almost done.

From the borrowers balance sheet and/or REO debt schedule you notice that he has $17,400 in debt that he has to make monthly payments on.  So now you take your financial calculator and determine that you can offer your client a $450,000 mortgage at 6% with a 30 year amortization and you calculate that the yearly mortgage payment is $32,375.  Now you add the $17,400 and $32,375 and you calculate your borrowers total debt service which is $49,775.

With that information you now divide Personal Net Cash Flow ($80,363) by Total Debt Service ($49,775) and you calculate that your clients DCR is 1.62. You look at your lender matrix and realize that for a owner occupied property your property is required to have a debt service coverage ratio of 1.25 and now by demonstrating that your client’s personal DCR is at 1.62 you minimize the investors risk and guess what you can get your client financed.  Even if this were a Non Owner Occupied property with a DSCR requirement of 1.25 you are still showing your lender that the client has more than enough cash flow to pay for the property if something goes wrong and this always helps in selling your deal.

Now please understand we have over 15 years of commercial lending experience so if you are interested in have access to the information that we have send us an email at info@wisemancapitalgroup.com and for $99 we will provide you the forms necessary so you can analyze tax returns like a commercial pro. We accept PayPal for all orders.

Commercial Mortgage Loan Screening Checklist

The following is a list of common “red flags” to help alert processors, underwriters, and auditors to possible irregularities in the data submitted by a borrower or other parties to the transaction. It’s main purpose is to point out typical inconsistencies, which have been found in fraudulently obtained loans. While the presence of one or more of these terms is not necessarily indicative of fraudulent intentions, it should point out the need for additional review and documentation. These items may seemingly be legitimate when viewed independently, but when taken as a whole. a pattern of deception may begin to emerge.

Loan Application

• Borrower and co-borrower work for the same company.
• Same telephone number for home and work.
• Employer on application does not match employer name on pay stubs or W-2′s provided.
• Date of application and dates of verification forms are not consistent.
• Significant or contradictory changes from original to final typed loan application.
• Unsigned/undated application.
• Less than two year history for residence and employment on loan application.
• Unreasonable accumulation of assets compared to income.
• Lack of accumulation of assets compared to income.
• Borrower buying investment property but does not own current residence.
• Years of schooling not congruent to profession.
• Application discloses new automobile but no loan or lease on credit report.
• Purchase price not consistent with borrower’s earnings.
• Price/date of original purchase price not shown for refinances or does not match information provided on appraisal.

Employment Documents

• Round dollar amounts for YTD and past earnings.
• VOE sent to POB without any explanation.
• VOE prepared/signed by lender on same date as prepared/signed by employer.
• Incorrect spelling of something.
• Illegible signatures with no further identification.
• Employer has same name and address as seller.
• Income disproportionate to type/location of employment.
• Drastic change from previous position or profession.
• Borrower is professional but not registered/licensed.
• Incorrect FICA taxes on W-2′s and pay stubs.
• Company name not printed on paychecks.
• Company or Employee name not shown on paychecks and W-2′s.
• Excessive praise in remarks section of Verification of Employment.
• Date of hire was on holiday or weekend.

Tax Returns

• Tax computation does  not agree with tax tables.
• Address and/or profession on page two of the 1040′s does not agree with other information on loan application.
• High income borrower does not use a professional tax preparer.
• Professional tax preparer used off the shelf software such as Turbo Tax or Simply Tax.
• Real estate taxes paid but no property owned or vice versa (Schedule A).
• No mortgage interest paid but loan application represents property ownership or vice versa (Schedule A).
• No interest income claimed but loan application shows substantial cash in banks (Look for Schedule B).
• No “cost of goods” sold on retail or similar operations (Schedule C).
• Few or no deductions for high income taxpayer (Schedule A).
• Tax Returns marked “Draft” or are not the most recently filed tax returns.

Credit Report

• No established credit
• Variance in employment/residence data with loan application.
• Multiple recent inquiries from mortgage lenders.
• Borrower is authorized user on several trade lines.
• High income borrower with no accounts or recently established accounts.
• All trade lines opened same time.
• Dates on lines of credit do not correspond with borrower’s age.
• Limited credit history for income/age.
• AKA or DBA used by borrower (not maiden name).

Preliminary Title

• Seller not in title (double escrow)
• Prepared for/mailed to party other than lender.
• Seller in title for short period of time but will receive substantial cash out.
• Seller is a corporation and property is not new construction.

Signature

• Signature of borrower not consistent throughout loan package.
• All signatures in loan package appear the same.

Appraisal

• Information left blank or addendum’s missing.
• Ordered earlier than sales contract execution date.
• Comparable sales over 6 months old (3 months for declining markets).
• Multiple line adjustments in excess of 10% or gross adjustments over 25%.
• Property has or is currently listed for sale or refinance.
• Ordered by party other than the lender.
• Sales contract has sales concessions but no mention by appraiser.
• Photographs do not match description.
• Three years sales history has large increase/decrease in sales price without explanation from appraiser.

Source of Funds

• VOD prepared/signed by lender on same date as prepared/signed by depository.
• Account jointly owned with another party not on the loan.
• Unfamiliar depository institution.
• VOD sent to POB without an explanation.
• Out of state investment accounts are borrower’s only source of funds.
• Recently opened account with no source of funds.
• Excessive balance in checking account vs. savings.
• Borrower has no bank account (does not believe in banks) but has established credit.
• Round dollar amounts or squeezed in numbers.
• Illegible signatures with no further identification.
• NSF charges on account with high average balance.
• Bank statements appear to be PC generated without additional support to verify it is applicant’s account.
• Regular deposits (payroll deposits) are at odds with the pay stubs provided.