Renewing Commercial Real Estate Loans
Bankers often ask us the following question:
”When a commercial real estate loan is being renewed and has not met the original objectives (spec that hasn’t sold, development project stalls, etc.), what items need to be considered when renewing the credit?”
There are four primary factors that should be considered: 1. Income levels and sources; 2. Principal pay-downs or curtailments; 3. Available liquidity and 4. Amortization.
- Income levels and sources – All income needs to be considered, from borrowers to co-makers to guarantors (and subsequent other entities) to determine what level of global income and cash flow is available to service global debt obligations.
- Principal pay-downs or a curtailment - The golden rule for principal curtailments, when renewing these credits, is a 10 percent principal pay-down.
- Available liquidity - What available liquidity sources (personal and business related – globally), are available to support the debt service of the credit request, should cash flow not fully support repayment? Savings accounts, checking accounts, time certificates of deposit (TCOD), money-market demand accounts (MMDA), and brokerage accounts are all sources that should be considered. However, just as important to the level of liquidity, is making sure all of the available sources have been verified and levels validated with appropriate account statements.
- Amortization – Considering the type of CRE credit, the loans should be amortized over a reasonable period of time, reasonableness of the credit request and the cash flow potential of the project.
It would be nice to have all of the above happen, but probably not realistic to believe all will happen. The ultimate goal for bankers is to reduce the overall risk of loss on individual commercial real estate credits (all credits for that matter) and being able to obtain any of the above, some or all, will help meet this objective. While doing the above may not keep a loan from being downgraded by regulators and/or external loan reviewers, it will show strong loan administration and hopefully reduce or eliminate loan losses within this closely monitored loan category.