Timing Matters on Refinance Loan

We are often asked when is the optimal time to refinance a commercial real estate loan. Many factors such as market interest rates, prepayment penalties, existing loan and the general objectives of the borrower come into play.

However, there are no fixed answers, but under real world are just a few thoughts on how you might analyze your own commercial refinancing.

Refinance Loan – Timing Matters

Refinance Loan - Timing Matters

Traditionally, the analysis to refinance an existing loan or into a new loan can be very complex. Financial advisors on how to use the discounted cash flow method, which is essentially a comparison of the two loans on a net present value basis.

We have found, but most builders are primarily interested in how the proposed loan:

1. Impact on their monthly cash flow.

2. What the closure costs will be and how these costs affect their fairness.

3. What will be the cost of bags.

4. How long does it take for the increase in cash flow to “pay back” the owner.

Principal pay off is of course another important part of any loan. However, for most owners, especially those with high properties, cash flow is more pressing than the above. This is due to the relatively high level of debt compared to net cash payment when all costs have been paid.

Example 1. Owner occupies office building.

Borrower is 3 years in a 5 year fixed, 20 year amortized loan and is considering refinancing in a 30 year fixed, 30 year amortization loan. The borrower’s primary motivation is the desire to help cash flow help companies achieve overall profitability. In addition, the borrower has raised the future when the existing loan balloons

Existing loans – 5 years fixed, 20 years amortized.

Property Value $ 1500,000

Current loan balance $ 1075000

Original loan balance $ 1,125,000 (Acquired buildings with 25% down)

Current loans at value 72%

Current equity 28% or $ 420,000

Interest rate 7.25%

Monthly payment $ 10,418

Proposed loan – 30 years fixed, 30 years amortized. Borrower is planning to roll as much of the closing costs as possible into the loan to reduce “out-of-pocket” cash.

Property Value $ 1500,000

Current loan balance $ 1075000

Closing costs $ 19,638

Proposed loan amount $ 1094638

Proposed loans worth 73%

Interest rate 8%

Monthly payment $ 8582

* Close Cost Break Down (title at $ 2000, $ lender attorney fees 2000, origination fee 1% or $ 10,838, $ 3,000 appraisal, environmental $ 1,800).

Increase in cash flow is $ 1,835 a month or $ 22,028 annually. Essentially from a cash flow perspective, the borrower would see the cost of the loan in less than a year, despite the 75 basis point increase. Although borrowers would have to pay for the assessment and environmental report in advance, they would be “reimbursed” for these nearby costs if desired.

In our experience most entrepreneurs would be very interested in implementing the planned refinancing.

Example 2. Investment property, 10 unit retail center.

Borrower has owned the property for 7 years

Borrower has owned the property for 7 years

And has two real estate loans. The first loan is a variable rate conventional loan that is amortized over 25 years annually, and the second is a seller instead. It will be over 20 years old and has a fixed rate of 20 years. Neither loan has a balloon provision, but the first loan has a prepayment penalty of 5% of the remaining balance loan, which in fact lasts for 3 more years.

Real Estate Current Value – 9% Cap $ 2.6 million (purchase for $ 2.3 million)

Combined Current Loan Balance $ 1,635,000

Original loan balance, 1. $ 1,610,000 (70% loan-to-value)

Original loan balance, $ 2,000,000 (10% loan-to-value)

Current loan value 61%

Interest rate, 1. 6.65%

Interest rate, 2.7%

Current debt coverage ratio 1.27

Net operating income $ 235,000

Combined Monthly Payment $ 15,448

Proposed Loan

Proposed Loan

10 years fixed, 30 years amortized. Borrower is planning on combining the two loans together and wants the security of a fixed rate loan. Borrowers also want to play as much role in closing costs as possible in the loan to reduce “out-of-pocket” cash.

Property Value – 9% Cap $ 2,600,000

Combined Current Loan Balance $ 1,635,000

Closing costs $ 83,500 *

Proposed loan amount 1735568

Proposed Loans at Value 67%

Interest rate 7.5%

Current debt coverage ratio 1.54

Net operating income $ 235,000

Monthly payment $ 12,743

Closing Cost Break Down (Pre Pay $ 72,500 [5% of 1st loan amount] title at $ 3000, lender attorney fees at $ 2,200, origination fee 1% or $ 17,185, $ 4,000 appraisal, environmental $ 1,800).

Cash flow increase is $ 2,704 a month or $ 32,449 a year, while the cost of the loan is $ 83,500 primarily on the down payment penalty. The borrower has a payback period of more than two and a half years. In addition to the interest rate, the proposed loan has a significant impact on, of course, the total cost of the loan.

Not an easy decision for borrowers. The possibility of going forward would likely be strongly influenced by the rest of the borrower’s opinion on where the future interest rates will be when the down payment ends.

It is interesting to note that the borrower would be able to increase his loan amount to $ 2,333,964 (cash proceeds would be approximately $ 598,000) if he chose. This is due to the increase in cash flow. The building debt coverage ratio would improve to a 1.54 – the rule is at least DCR is 1.2. If the borrower’s intention was to pull cash out of the property to inject it into another property (or for other reasons) this would probably be a much easier decision for us with the loan.

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