Doâ€™s and donâ€™ts for working effectively with your hard-money lender: A primer for brokers and borrowersBrian A. Operthard money, Wall Street, short deal, net operating income
Recent economic events on Wall Street have created a sudden
shortage of capital to finance many worthwhile commercial real
estate transactions. This has resulted in many borrowers seeking
financing from lenders with privately raised and administered
capitalsometimes called "hard-money lenders." These lenders fund a
wide range of transactionsfrom local to national; loans from under
$1 million dollars to under $100 million; construction loans to
refinancing loans; and more. Most have one major theme in common:
We are very busy, particularly lately. We need to review
prospective projects quickly, and then speedily, but carefully,
price, quote, finalize and close transactions. The following are
some do's and don'ts to think about as you undertake a loan with a
Don't send the lender an enormous pile of disorganized papers.
Prepare a short deal synopsis, not more than two pages, which will
address the project and the loan requirements. Back this up with a
brief financial analysis, a map, photos, information on the
borrower and other supporting documents. Imagine a neat, six-page
submission as compared to a 40-page disorganized pile of papers.
Which do you think will receive the most attention the
Do describe the transactiontype of real estate project, location
of real estate, type of loan, loan amount, equity available,
source, term of loan, exit strategy, amount and types of debt that
exist on the property, payoff situation, and description of the
borrower. Dont ignore or try to hide the 'hair" on the deal. This
will come out through the due diligence carried out by your lender,
and will cast a negative shadow over the deal. If there is "hair"
on the deal, a brief overview of the story or the events leading up
to the story should be included.
Don't tell the story of your life and the project's entire life
at the outset of your submission. Rather, start with the
conclusion, the "therefore," (project, loan amount, purpose and
term), and then support the "therefore" with the supplemental
information you will provide. The details of the "story" will
probably come out during a telephone conversation at a later
Don't expect your lender to be willing to do your deal unless
there is an exit strategy in place. You should identify the exit
plan in your initial submission, and be prepared to defend the
strategy. Two exit plans are better than one. Your lender is not
likely to be interested in not being able to be repaid when your
Do provide last year's profit and loss statement showing net
operating income (NOI), as well as this year's year-to-date profit
and loss statement.
Don't include mortgage interest and depreciation in the
financial or profit and loss statements. NOI before depreciation
and debt service is what the lender will want to see. Dont make
your lender do the arithmetic.
Do show actual vacancy information clearly, as well as
management fees, reserves for replacement, etc. in the budgets.
Assuming there will be no requirement for a management fee since
the project is self managed is not useful. In the event of a
default, the lender will most likely call in a professional
management firm, and the cash flow must allow for this
Do provide a detailed rent roll, and list each vacancy, every
tenant, lease term, rental rate, pass-through, etc. Be sure that
the numbers are all totaled and add up correctly. Do make certain
that the total square feet of the rent roll is equal to the total
square feet of the building; or the number of units and the number
of tenants plus vacancies, are equal, etc.
Don't send a complete appraisal report with the preliminary
submission. Rather, copy and send the "opinion of value" or "value
reconciliation" page (be sure it includes the date), and perhaps
the two or three pages of worksheets that explain how the value was
determined. At this point in the deal evaluation, your lender has
little interest in the neighborhood characteristics of the town or
the largest employers where the property is situated. Do include a
page or two from the phase one environmental assessment, including
the date, if available. The section showing "conclusions" is
sufficient, plus the cover page or letter of transmittal showing
the name of the firm that carried out the study and the date of the
Don't hire an environmental assessment firm or an appraiser if
you don't already have the reports on file. You will expect your
lender to automatically accept your selected third-party
consultant. Routinely, the lender will prefer to engage one of his
selections later, if they elect to pursue the deal.
Do send along a copy of the local town's vote(s) on zoning,
permits and other approvals, only if it is a to-be-built or
expansion project, as applicable. Don't send the entire package of
minutes; extract the vote and note clearly the purpose of the
Do include a few select color photographs. Obviously, a picture
is worth many words, as well as a locator map and 8.5 by 11 site
Don't send a full set of architectural and working drawings with
your preliminary submission. What do you think your lender will do
with another five pounds of paper?
Don't send the lender originals. A busy, successful lenderyour
preferred source of capitalprobably receives dozens of deals every
week. Keeping track of them is challenging enough without being
concerned about protecting your valuable originals. Also, returning
them, if required, is time consuming and an unnecessary expense to
your lender. Finally, you should be aware that it is your risk to
send originals with your first submission.
Don't package up a number of different properties into one deal
analysis. Each property must be evaluated and stand alone. A
consolidated financial analysis and spread sheet will not help the
lender to identify and study each property separately. Even if the
properties must be consolidated so that the "losing" property is
supported by a "winner," each will require its own
Don't, at the outset, demand that the lender make a site visit.
The lender's time is of prime importance, and a site visit will not
influence the lender to make a loan that is of little interest
based on the documents. If the numbers and documents are a fit, the
site visit will likely cement the deal, but not until then.
Don't rely solely on your Mortgage Broker to make the deal.
Shortly into the evaluation of the deal, the lender will probably
want a direct conversation with the borrower. Offer a three-way
conference call including the lender, borrower and broker fairly
early in the transaction, based on your lenders preference, to
permit the lender and borrower to evaluate each others interest,
style and objectives.
Don't permit the Mortgage Broker to reply to questions directed
by the lender to the borrower during telephone conference calls.
The lender usually has a specific purpose in inquiring of the
borrower and is expecting the borrower to respond. Failure, or
inability, to respond is as powerful a reply as a timely and
detailed response. The broker's input is valuable when he is called
upon during such a telephone call, and also to follow-up when
appropriate, perhaps later, as the deal develops.
Don't arrange to do a deal with a selected lender until you have
completed your initial due diligence on the lender, including the
lender's interests, experience, qualifications and references. If,
after a week or two of negotiations, you then suddenly determine
that you are uncomfortable with the selected hard-money lender, you
have wasted a great deal of time for each of you, as well as your
borrower, and the lender will not be pleased with this sudden
revelation. If the lender resists providing evidence of their
ability to make the loan being contemplated fairly early, move on
to another who is more cooperative. Dont expect anyone to provide
100 percent financing.
Do expect to invest between 15 percent and 25 percent in cash,
or legitimate equity in the propertys value, if the property has
already been acquired. You have heard, often enough, that there are
no longer any no-cash deals.
Do rely on this rule, particularly in the recent economic
Don't expect the lender to accept the difference between the
price you actually paid for a recent acquisition and the appraised
value, if higher, as your share of equity. From the lender's
perspective, the price you paid in an arms length transaction is
the market value; you may believe that you stole the property for
substantially less than the appraised value. Your lender will
probably congratulate you for your accomplishment, but the purchase
price will, nevertheless, be the demonstrated market value.
Do expect the lender to recognize an appraised value that is
significantly higher than the price you have recently paid for a
property if, and only if, you have successfully completed a
significant number of bureaucratic accomplishments since the
purchase date (such as obtaining full entitlement), have newly
negotiated signed leases, or have physically improved the property,
and you can prove it.
Don't expect your lender to lend you operating capital. One of
the best ways to demonstrate your capabilities as a
developer/operator is to invest your own capital into the project
to underwrite start-up expenses. And what is the collateral for a
business start-up? Unless your lender is also your business
partner, why should you be loaned the start-up money for your own
Don't expect your lender to rely solely on your enthusiasm for
your deal as the only reason why your project will be a
Do generate pre-leasing, pre-sales, or other demonstration of
marketability. Market studies alone are seldom sufficient. Real
prospects will ensure that your lender has serious interest in your
As lenders, we often hear: "When you visit the property and see
the market, the project will sell itself." No, it won't. First, the
numbers have to work, then the due diligence has to confirm the
numbers and the reports, and finally, the chemistry between the
lender and the borrower has to coincide. The site visit puts the
entire project into perspective. Only then does the loan have a
high probably of closing.
Brian A. Opert of Sterling Commercial Capital may be reached
by phone at (800) 497-8606 or e-mail [email protected]