SBA Program Enables Easy, High-LTV Commercial Mortgage

Using the SBA 504 loan program, however, a bank is largely insulated from loan losses. As a result, many banks are still eager to make these commercial loans.

If you’re a commercial mortgage broker, why not try to swim downstream? You should originate the kinds of loans that the banks want to see during this credit crisis.

Under the SBA 504 loan program, a borrower can finance up to 90 percent of the purchase of a piece of commercial real estate. Sometimes, even 90 percent of associated heavy equipment can be financed.

These loans are typically made by banks, with the assistance of a local community development corporation. A conventional commercial first mortgage of 50 percent loan-to-value is made by the bank, and a piggy-back second mortgage up to 90 percent LTV is recorded concurrently.

For example, let’s suppose a widget manufacturer wants to expand its business by buying an industrial building for $1 million. The bank would make a $500,000 conventional commercial first mortgage at market rates, typically amortized over 25 years, due in ten to twenty-five years, and with a fixed rate for at least the first five years. The bank would record concurrently a $400,000 second mortgage that would eventually be sold to a local certified development corporation and guaranteed by the Small Business Administration.

The borrower would get $900,000 in financing on this building but would only have to put $100,000 down. In contrast, a conventional commercial mortgage lender would normally only be able to finance $700,000 to $750,000 — requiring a whopping $250,000 to $300,000 downpayment.

But wait — it gets better.

The second mortgage is fully-amortized over 20 years with no balloon payment. In addition, because the second mortgage loan is guaranteed by the SBA, the interest rate is typically 1.5 percent lower than the underlying conventional first mortgage. The borrower gets a blended rate — between the market interest rate on the $500,000 first mortgage and the lower, subsidized interest rate on the $400,000 second mortgage — that is around 1 percent lower than conventional first mortgage rates.

In addition, both loans are assumable, while loan fees are low — typically 1.5 points on the first mortgage and 1 point on the second mortgage. The SBA 504 loan program is a great deal. Plus banks actually want to make these loans.

However, there are some limitations.

First of all, the property must be at least 51 percent owner-used. Usually the borrower’s credit score must be at least 600, though even this is good compared to banks today that normally require a credit score of at least 650 on conventional commercial real estate loans.

Finally, after adding back depreciation and existing rent payments, the borrower’s net business income based on tax returns must substantiate enough income to make the proposed new mortgage payment. The debt service coverage ratio only needs to be 1.0. In contrast, conventional commercial real estate lenders require a 1.25 DSCR.