As a follow-up to the first part, Commercial Mortgages Part 1 – Equity, this post deals with debt service or the ability of a borrower to make the mortgage payments.
We hear frequently from borrowers “I have a good property with lots of equity, why does the bank need to see my income?”. Banks and lenders want to know that you or your company can afford to keep the mortgage current and will look to prove it using either a Debt Service Ratio and/or a Total Debt Service calculation.
A Debt Service Ratio is the ratio of cash available in a corporation to pay for debt payments. Traditional Banks look for $1.25 of net income for every $1.00 of debt whereas Private Lenders may allow $1.00 of net income for every $1.00 of debt.
A Total Debt Service calculation refers to a individual’s entire debt load in relation to their income. Traditional Banks need to see that an individual is not spending more than 40% of their annual income on debt payments. Mid Market and Private Lenders have more relaxed criteria but still do want to see that an individual can afford their debt.
Reviewing financial statements, tax returns and rent rolls are all required to determine your ability and/or your company’s ability to make the mortgage payments. Banks will use historical averages of up to 3 years whereas Private Lenders may only need to know that the mortgage can be kept current for the next 12 months.
If you need some direction on your deal as it relates to debt service, email me (dylan at bridgecap.ca) or add a comment below.