PmtCalcHow the payment and balloon are calculated
Payment = loan amount × r ÷ (1 − (1 + r)−n), where r = annual rate ÷ 12 and n = 12 × amortization years
Balloon = loan balance after 12 × term years of payments
LTV = loan amount ÷ property value · DSCR = net operating income ÷ (12 × payment)
The APR is the yearly rate at which the monthly payments and the balloon repay the loan amount minus points and closing costs. Payments are rounded to the cent and interest is rounded each month.
Example
A $1,400,000 loan on a $2,000,000 property (70% LTV) at 7%, amortized over 25 years with a 10-year term, costs $9,894.91 a month. After 120 payments a balloon of $1,100,867.33 is due, about 79% of the original loan. Interest over the 10 years totals $888,256.53. With a 1% origination fee ($14,000) the APR is 7.15%. Yearly debt service is $118,738.92, so $150,000 of net operating income gives a DSCR of 1.26.
With a 5-year term the payment is the same but the balloon is $1,276,270.06 and the APR is 7.25%, because the fee is spread over fewer years. Amortizing over 30 years instead lowers the payment to $9,314.23 and raises the DSCR to 1.34, but leaves a larger balloon of $1,201,374.31 at year 10. Borrowing $1,600,000 (80% LTV) costs $11,308.47 a month and drops the DSCR to 1.11, below what most lenders accept.
What commercial lenders look at
Loan-to-value. Commercial lenders usually lend up to 65–75% of the property's value, so expect a down payment of 25–35%. Debt service coverage. The property's net operating income (rents and other income minus operating expenses such as taxes, insurance, repairs and management, before loan payments) should cover the yearly payments with room to spare; a DSCR of 1.20–1.25 is a common minimum. Balloon risk. When the term ends you must refinance, sell or pay the balance in cash, at whatever rates and property values exist then. Many commercial loans also charge a prepayment penalty, defeasance or yield maintenance if you pay off early, so read the loan terms before planning an early refinance. Rate. Fixed commercial mortgage rates are usually quoted as a spread over the Treasury yield for a similar term, such as the 10-year Treasury for a 10-year loan. The Federal Reserve publishes those yields each business day in its H.15 release, so you can see how the benchmark under a quote has moved.
Frequently asked questions
What is a balloon payment on a commercial mortgage?
It is the remaining loan balance, due in one payment when the loan term ends. The monthly payment is figured as if the loan ran for the full amortization period (often 25 years), but the loan matures sooner (often 5, 7 or 10 years), so most of the principal is still owed at maturity.
What is the difference between the term and the amortization period?
The amortization period sets the size of the payment; the term is when the loan is due. A 10/25 loan has a 10-year term and a 25-year amortization. If the term equals the amortization period, the loan pays off fully and there is no balloon.
What DSCR do lenders require?
Many commercial lenders want a debt service coverage ratio of at least 1.20 to 1.25, meaning net operating income is 20–25% more than the yearly loan payments. Requirements vary by lender and property type. A DSCR below 1.0 means the property does not earn enough to make the payments.
Why is the APR higher with a shorter term?
Points and closing costs are paid once. On a 5-year loan they are spread over 5 years instead of 10, so they add more to the yearly cost. The APR here assumes you pay the balloon when it is due rather than refinancing.
Sources
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