A Short History of Underwriting Guidelines

Borrower underwriting guidelines have changed dramatically in recent years. Back in the good old days, prior to the Great Recession, lenders did a very cursory job of underwriting the borrower. They typically asked the borrower to provide a simple financial statement with a credit check, and that was the extent of the credit items required.

Back then, they focused almost exclusively on the pros and cons of the property. And if they liked the risks associated with the property, it was very likely the loan would be approved with only a cursory look at the borrower.

Ah, the good old days.  But as you know that all changed in recent years.  In today’s environment, lenders have upped their borrower documentation considerably requiring an extensive amount of information on the borrower.

But many borrowers are still thinking they are in pre-Great Recession times with the lenders.   Not so.  Those days are long past.   Under today’s lender guidelines the borrower would do themselves a favor if they were proactive about providing their personal documentation at the same time as the property documentation. Doing so strongly suggests that you, the borrower, are a professional, savvy investor.  Instead of slowly dripping the required documents over a couple of weeks or so, have it all prepared to give to them right from the get go.

Shown below are six borrower underwriting guidelines that lenders use to qualify you:

  1. Minimum Net Worth to Loan Ratio – Provide the lender with a complete, professional looking personal financial statement. Each lender has different requirements but they typically require the borrower’s net worth to be equal to or greater than the loan amount. Some require a borrower’s net worth to be as much as two times the proposed loan amount.  Ask the lender before you send him your financial statement what is the minimum net worth to loan ratio.  If your net worth exceeds this ratio then proceed with sending him all your  personal documentation.
  2. Minimum Number of Months of Debt Service Required of Liquid Assets – Again each lender is different but they typically require liquid assets showing on the borrower’s balance sheet equal to 6 to 12 months of debt service. Find out what your lender requires before signing the application.
  3. Complete the REO Schedule with all the Details Filled In – Many lenders are now creating a global cash flow spreadsheet on the borrower. They want to see if the prospective borrower is generating a positive cash flow or slowly draining himself of all his cash.  Much of the detail required to determine his global cash flow comes from the real estate owned schedule.  Prepare the REO schedule before you begin talking to lenders so that when they ask for it, it’s ready for them.  If you need a copy of a REO schedule contact me and I’ll email you one.
  4. Credit Rating & Explanations of 30 Day Late Payments – Run a credit report on yourself before you start looking for a lender. Find out your credit score.  Most lenders require that your credit score be a minimum of 680.  If yours is not that high, you better have a good explanation.  Also you need to explain every payment that is 30 days late or more.  Put it in writing before they ask.
  5. Explain Past Tax Liens, Judgments, Litigation – Have written explanations with back up documentation already prepared before you sign the application. Give the prospective lender your explanations and have him verify in advance of signing your application that your explanations are satisfactory and will not impact loan approval.  Do it before you sign the application when you have the most negotiating power, not after when you have little or none.
  6. Tax Returns, not just Schedule 1040s, signed and dated including all K-1s – Lenders want all of your federal tax returns, not parts of them. This includes providing all of you K-1s.  To speed up the process get it done correctly the first time.

One of the truest statements ever uttered about commercial real estate is, “Time kills deals.”  A lengthy, drawn out loan underwriting process will at the very least move your deal to the bottom of the pile.  It has the potential of killing the deal altogether.  Many of these six borrower underwriting guidelines can be verified quickly if the borrower will be proactive and anticipate what the lender is going to require.  A good borrower, a good mortgage broker should work towards making the lender’s process as easy as possible to avoid ever hearing the words, “I’m sorry to inform you, your loan has been turned down.”

Source: From the Analyst Chair: Anticipate the Road Blocks in Commercial Real Estate Finance by Metropolitan Capital Advisors Blog, September 4, 2012.

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