Explaining The Differences In Residential And Commercial Loan Underwriting

IF YOU’RE NEW TO INVESTMENT PROPERTIES AND WARY OF THE UNDERWRITING PROCESS, IT’S FAR EASIER THAN YOU’D EXPECT

For most people, their first experience with mortgage underwriting is when they initially buy their primary residence, which more often than not, is a single-family home. The loan underwriting process and requirements are pretty straightforward, and also pretty invasive. In short, the lender is collecting as much data as they can to assess whether or not you’ll be a reliable borrower, and how much you can afford. For a commercial loan, which you’ll get for any rental or investment property, the requirements are actually much less stringent. When it comes to rentals, it’s all about whether or not the property can create income.

THE TYPICAL RESIDENTIAL UNDERWRITING

As noted, residential mortgages are much more familiar and are the norm for most people. Even for many of our clients in the Phoenix East Valley and Boston Suburbs (Natick), many of their “investments” are single family homes that they don’t reside in but may have previously. When it comes to these loans, lenders are under heavy scrutiny in the wake of the housing collapse in 2007-2008. Lenders will pull your full credit report and see any and all debt that you have and the amounts you owe for monthly payments. Think car loans, student loans, personal loans, lines of credit, home equity lines of credit…they’re going to look at it all and they’re going to compare those monthly obligations to your income to calculate your ability to pay. If you make $4,000/mo. but you owe $1000/mo. in student loans, $400/mo. for your car, and another $600/mo. for a personal loan, the bank isn’t going to approve you for anything more than a $2000 monthly mortgage, which in this market, is another way of saying you can’t afford to buy a house.

LEARN MORE: CAN YOU MAKE MONEY BUYING A SINGLE FAMILY HOME AS AN INVESTMENT PROPERTY?

THE TYPICAL COMMERCIAL UNDERWRITING

For multi-family properties, which are the most common investment type for our owners in Rhode Island, Worcester, and New Haven County, commercial loans are needed. While it might seem like getting money from a bank for a property you personally won’t live in seems like a riskier loan, in reality the relative ease of this process, when compared to residential loans, reveals the opposite. When it comes to commercial investment properties, you just need to show the bank that the property is going to be profitable. With that, they can expect the loan to be satisfied…end of story. That doesn’t mean the underwriting will be any quicker (see below), but 9 times out of 10 the lender won’t look at your credit report, your other properties, or your bank statements. They don't really care about you…they are hyper-focused on the investment property you’re buying. If you’re looking at a 6 family building with a rent roll of $6,000: Your mortgage is 3K, taxes 500, insurance 200…that debt to income calculation is an easy one for the lender and you’re approved easily.

LEARN MORE: WHY DOES IT TAKE SO LONG TO CLOSE ON A RENTAL PROPERTY PURCHASE?

WHERE IT CAN GET TRICKY FOR INVESTORS AND THOSE WHO OWN THEIR OWN BUSINESSES

As has been established, there shouldn’t be much difficulty getting a commercial loan for your investment property if the rents are there and your venture will be profitable. However, if you’re someone who owns your own business, or are a seasoned investor using an LLC for your properties, and you apply for a residential loan, it may be difficult if your “income” is non-traditional. Many of our investors “house” their properties in an LLC, which is a smart move. But, when they personally apply for a residential loan, lenders won’t include that income or those streams of profit as part of their qualification process. Your LLC might have millions in profits, but your LLC isn’t going to help with your residential mortgage. Same goes for those who own their own businesses. Unless you’ve established a transparent stream of income that flows from that entity to you personally, you may run into some problems.

On the flip-side, if you have personal debt that would normally make it more difficult for you to get the loan amount you’re hoping for, you may have the option to roll that debt over to your LLC or company. If that business is then paying toward the debt for 12 months, underwriters will likely omit it from your personal calculation. There are some avenues but they take foresight and most importantly, we wanted to hit home that these residential loans, which at face value seem simple, are more difficult than the loans so many of our investors are used to applying for so be prepared for some headaches if you’re going that route.

LEARN MORE: DOES YOUR CREDIT REPORT MATTER WHEN BUYING RENTAL PROPERTIES?

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Mick Lefort is the Vice President of Operations for Nexus Property Management®. A National Property Management Franchise that manages all types of rental property from single family homes or condos to large apartment buildings and complexes.

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