NMP - December 2016 - 73


f Commercial
Underwriting
By Stephen A. Sobin

As you can see, there is a fair
amount of basic arithmetic
employed when analyzing a
commercial mortgage loan
request. A borrower should
familiarize himself with these
calculations prior to submitting a
loan application to a lender, or
submitting a purchase offer to a
seller or broker.

Stephen A. Sobin is president and founder of Select
Commercial Funding LLC, a nationwide commercial
mortgage brokerage company. He is an industry veteran
with more than 30 years of mortgage lending experience,
and is also a founding member of the InterCapital Group,
a nationwide alliance of commercial mortgage
professionals. Stephen may be reached by e-mail at
SAS@SelectCommercial.com.

73

n National Mortgage Professional Magazine n DECEMBER 2016

can see, the higher the cap
rate used, the lower the value.
The lower the cap rate, the
higher the value. A
professional appraiser will
know the appropriate cap rate
in the given market for the
given property type. To recap,
the value of the building will
be determined by the net
operating income and the cap
rate used.
l Loan-to-value ratio (LTV):
The second main ratio used
by a commercial mortgage
underwriter is the loan-tovalue ratio. This is much
simpler to calculate and is
similar to a residential loan.
Once the value is determined
(usually by the income
capitalization method), the
lender multiplies by the LTV to
determine the maximum loan.
As an example, if a lender has
a maximum LTV of 75 percent,
and the property is worth $2
million, the maximum loan
(based on the LTV method)
would be $1.5 million. The
maximum loan using the LTV
method might be higher or
lower than the maximum loan
available using the DSCR
method explained above. The
underwriter will calculate both
and usually cap the loan
amount at the lower of the two
ratios.

NationalMortgageProfessional.com

annual debt service is
$100,000. In this example, the
DSCR is 1.25 ($125,000
divided by $100,000). A
number above 1.00 means
that the property operates in
the black. A number equal to
1.00 means the property
breaks even. A number below
1.00 means that a property
operates in the red. Most
underwriters look for a DSCR
of 1.25 or better. If the
number is lower, a reduction
in the loan amount would be
necessary.
l Capitalization rate (Cap
Rate): The cap rate is the rate
of return that an investor
expects to realize on his cash.
If you deposit money in a
bank CD paying one percent
interest, you can say that the
cap rate is one. A real estate
investor typically seeks a
return of five to eight percent.
The cap rate helps an
underwriter determine the
value of a commercial
property. This concept is
explained next.
l Property value (Income
Capitalization Method):
Above we discussed a
building with a net operating
income of $125,000. That
means that the building
generates $125,000 of cash
flow (before the mortgage). If
an investor wanted a cap rate
of eight percent, that building
would be valued at $1,562,000
($125,000 divided by 0.08
equals $1,562,000). If a
different investor was willing
to accept a cap rate of five
percent, the same building
would be worth $2,500,000
($125,000 divided by 0.05
equals $2,500,000). As you


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Table of Contents for the Digital Edition of NMP - December 2016

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