Real Estate Finance in a Canadian Context Webinar 2: Chapter 7, 8 and Project 1 Preparation

Transcription

1 Real Estate Division Real Estate Finance in a Canadian Context Webinar 2: Chapter 7, 8 and Project 1 Preparation Sharon Gulbranson

2 Introduction Introduction Overview of session UNIVERSITY OF BRITISH COLUMBIA 3

3 Topics Review of Mortgage Finance Chapter 7: Mortgage Underwriting and Residential Borrower Qualification Chapter 8: Commercial Mortgage Underwriting Project 1 Preparation Questions UNIVERSITY OF BRITISH COLUMBIA 4

4 Multiple Choice Question 1 Borrow $150, at j 2 = 4% for a 25 year amortization period and a 2 year term. Payments aremonthly and rounded up to the next higher dollar. What is the amount of the monthly payment? (1) $789 (2) $790 (3) $791 (4) $792 UNIVERSITY OF BRITISH COLUMBIA 5

5 Calculator Steps 4 shift NOM% 2 shift P/YR shift EFF% shift P/YR shift NOM% PV 300 N 0 FV PMT UNIVERSITY OF BRITISH COLUMBIA 6

6 Multiple Choice Question 2 Same facts from question 1 Calculate the principal paid during the 12 th payment and the total interest paid during year 1. (1) $485.05; $6, (2) $309.85; $3, (3) $412.88; $4, (4) $304.99; ;$ $5, UNIVERSITY OF BRITISH COLUMBIA 7

7 Calculator Steps (continued) 790 +/ PMT 12 INPUT shift AMORT = INPUT 12 shift hf AMORT = = 5, UNIVERSITY OF BRITISH COLUMBIA 8

8 Multiple Choice Question 3 Based on the following cash flows, calculate l the NPV at a rate of j 1 = 6%. Cost: $150, Yr 1 CF = $50,000; Yr 2 CF = $20,000; Yr 3 CF = $45,500,, Yr 4 CF = $30,000 and Yr 5 CF = $175,000 (1) $13, (2) $65, (3) $107, (4) $27, UNIVERSITY OF BRITISH COLUMBIA 9

9 Calculator Steps shift C ALL 6 I/YR 1 shift P/YR / CFj / CFj CFj CFj CFj CFj shift NPV 13, UNIVERSITY OF BRITISH COLUMBIA 10

10 Ch 7: Mtg Underwriting and Residential Qualification Introduction Information Collection Lending Policy Example UNIVERSITY OF BRITISH COLUMBIA 11

11 Chapter 7: Introduction the process used by lenders in determining whether or not to lend mortgage money and how much, if any focus on residential properties (owner occupied) 2 types of risk: Default risk: will borrower honour contract? Capital risk: will property retain its value? UNIVERSITY OF BRITISH COLUMBIA 12

12 Information Collection How? Loan application Credit analysis Appraisal of propertyp UNIVERSITY OF BRITISH COLUMBIA 13

13 Loan Application Personal Information Employment Information Income Information Assets and Liabilities Mtg Financing Needs Loan requested Characteristics of Property Subsequent Costs Clause Permission i Clause and Signature UNIVERSITY OF BRITISH COLUMBIA 14

14 Credit Analysis Purpose: to provide info on applicant s past pmt behaviour and the likelihood this will continue into the future attempt to get a handle on ability to pay and intention to comply with the mortgageterms terms attempt to minimize future default, based on past record UNIVERSITY OF BRITISH COLUMBIA 15

15 Appraisal of Property nature of real property pledged as security is very important to the lender Appraisal ltechniques: Direct Comparison Approach and Cost Approach Market Value: expected saleprice Lending Value: LT conservative estimate of value; the value used for lending purposes UNIVERSITY OF BRITISH COLUMBIA 16

16 Lending Policy Rules of lending that determine the maximum loan that can be supported by: the lending value of the property AND the applicant s income UNIVERSITY OF BRITISH COLUMBIA 17

17 Lending Constraints Loan to value ratio Debt service ratios (GDSR and TDSR) NB: Find the maximum loan under all constraints. The lowest loan amt will set the overall loan size UNIVERSITY OF BRITISH COLUMBIA 18

18 Loan-to-Value (LTV) Ratio Maximum Loan = LTV Ratio x Lending Value less than 100% % set by: statutory maximums for institutional lenders, lender s general policy, current availability of mortgage funds, risk on loan, and availability of mortgage insurance UNIVERSITY OF BRITISH COLUMBIA 19

19 Debt Service Ratios maximum loan which can be supported by borrower s income based on annual estimate of gross income GDSR = PIT Gross Income TDSR = PIT + Other Payments Gross Income UNIVERSITY OF BRITISH COLUMBIA 20

20 Residential Qualification Example Based on the following information, calculate the maximum loan allowable? Purchase price = $485,000; lending value = $480,000; annual gross income = $90,000; annual net property taxes = $2,750; other debts = $5,000 per year Constraints: loan to value= 80%; GDSR= 35%; TDSR= 40% Loan: j 12 =55%;25 yr 5.5%; amortization; mo pmts UNIVERSITY OF BRITISH COLUMBIA 21

21 Multiple Choice Question 4 Based on a LTV ratio of 80%, what is the maximum loan under the loan to value ratio? Purchase price: $485,000 Lending value = $480, (1) $388,000 (2) $363,750 (3) $375,000 (4) $384,000 UNIVERSITY OF BRITISH COLUMBIA 22

22 Solution Maximum loan = 80% x Lending Value Maximum loan = 80% x $480,000 Maximum loan = $384,000 UNIVERSITY OF BRITISH COLUMBIA 23

23 Solution PI = (GDSR x Gross Income) Prop Taxes PI= (35% x $90,000 ) $2,750 PI = $28,750 per yr; $2, per mo AND (with TDSR) PI = (TDSR x Gross Income) Taxes Other PMTs PI = (40% x $90,000) $2,750 $5,000 PI = $28,250 per yr; $2, per month UNIVERSITY OF BRITISH COLUMBIA 24

24 Solution Continued Max loan = $2, x a[[300, j 12 = 5.5%]] Max loan = $383, I/YR 12 shift P/YR / PMT 300 N 0 FV PV 383, UNIVERSITY OF BRITISH COLUMBIA 25

25 Chapter 8: Commercial Mortgage Underwriting Residential vs commercial Application process Cash flow analysis Lending constraints Example UNIVERSITY OF BRITISH COLUMBIA 26

26 The Process income producing properties non owner owner occupied residential property and all nonresidential property p y( (apts, office, medical, warehouse etc.) underwriting process is similar to residential, but focus is on PROPERTY income, not borrower s income lending practice under residential is relatively uniform among lenders, not so with commercial mtg lending. Why? UNIVERSITY OF BRITISH COLUMBIA 27

27 Multiple Choice Question 5 Commercial lending activities are less uniform than residential because: (1) Commercial borrowers are generally less sophisticated with respect to financing than typical residential borrowers (2) Commercial properties are homogeneous (3) The large size of commercial loans requires less detailed analysis than with residential applications (4) The nature of the covenant to pay on commercial loans is much more diverse than income used in residential underwriting UNIVERSITY OF BRITISH COLUMBIA 28

28 Cash Flow Analysis Gross Potential Rental Income + Other Income Vacancy and Bad Debt Allowances = Effective Gross Income (EGI) Operating Expenses = NET OPERATING INCOME (NOI) UNIVERSITY OF BRITISH COLUMBIA 29

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30 Example of NOI Calculation Based on the following information, calculate the annual NOI. 20 suite apartment: 8 two bd bedroom $1,200 per month and 12 one bedroom $900 per month Other Income $5,000 per year (collected) Vacancy and Bad Debts are3% of Gross Rental Income and operating expenses are $95,000 per year UNIVERSITY OF BRITISH COLUMBIA 31

31 Solution 8 x $1200 x 12 = $115, x $900 x 12 = $129,600 $244,800 3% Vacancy $7,344 $237,456 Other Income $5,000 Effective Gross Income $242,456 Operating Expenses $95,000 NOI $147,456 UNIVERSITY OF BRITISH COLUMBIA 32

32 Items Omitted in NOI Depreciation Income Tax Capital Cost Allowance (CCA) Debt Service (Mortgage g Payments) UNIVERSITY OF BRITISH COLUMBIA 33

33 Lending Policy two levels l of constraints: security (loan to value) l and income (safety margin and debt coverage ratio) choose the lowest constraint in order to qualify for the maximum loan UNIVERSITY OF BRITISH COLUMBIA 34

34 Income Constraints Safety Margin: % of NOI set aside as a cushion to ensure that there is adequate income to cover the mtg pmts Debt Coverage Ratio (DCR) = NOI/Debt Service; must be greater than 1; related to the safety margin: [1/(1 Safety Margin)] UNIVERSITY OF BRITISH COLUMBIA 35

35 Loan-to-Value Ratio Maximum loan = % x Lending Value Vl Maximum/minimum % set by lender assume lending value = market value How do we calculate market value? Use Direct Capitalization Approach or Discounted Cash Flow Approach UNIVERSITY OF BRITISH COLUMBIA 36

36 Direct Capitalization Technique Market Vl Value = NOI Subject Property/Market Cap Rate Market cap rate is the rate of return expected td (yield) on recently sold similar properties Yield = NOI/Sale Price (marketvalue) UNIVERSITY OF BRITISH COLUMBIA 37

37 Commercial Qualification Example Based on the following, calculate the maximum loan allowable under the LTV ratio and the debt coverage ratio. Which is the binding constraint? Interest rate: j 12 =10%. Monthly payments will be amortized over 20 years with a 3 year term. Loan to value: 70%; DCR: 1.2 Market Cap Rate: 8% NOI = $107,400 per annum UNIVERSITY OF BRITISH COLUMBIA 38

38 LTV Solution Max loan = Lending Value x 70% Max loan = $107,400/ x 70% Max loan = $1,342,500 x 70% Max loan = $939,750 DCR Maximum annual payment (PMT)= NOI/DCR PMT = $107,400/1.2 = $89,500 per year PMT = $7, per month UNIVERSITY OF BRITISH COLUMBIA 39

39 Solution continued PV = $7, x a[[240, j 12 = 10%]] 10 I/YR 12 shift P/YR / PMT 240 N 0 FV PV 772, DCR is binding, max loan = $772,866 UNIVERSITY OF BRITISH COLUMBIA 40

40 Project 1 Covers lessons 1 6 (chapters 1 8) 20% of course grade UNIVERSITY OF BRITISH COLUMBIA 41

41 Question 1: Residential Qualification Show work Interest rate Rounding of payment GDSR payment rounding For the overall max loan, compare LTV and GDSR UNIVERSITY OF BRITISH COLUMBIA 42

42 Question 2: Commercial Qualification Calculate NOI Interest rates brief explanation required Max loan: calculate and compare all options: LTV, safety margin, and DCR UNIVERSITY OF BRITISH COLUMBIA 43

43 Question 3: History of Rates Provide ample and detailed discussion Show graph and supporting table Show extended time frame Provide source explicitly and on table Look at general trends and specific blips in time UNIVERSITY OF BRITISH COLUMBIA 44

44 Question 4: Residential Mortgage Products Include a table Compare products and provide some details Give reasons for similarities/differences Identify and compare basic and unique products UNIVERSITY OF BRITISH COLUMBIA 45

45 Question 5: Mortgage Loan Insurers Discuss all three mortgage loan insurers Include table Add some detail to list UNIVERSITY OF BRITISH COLUMBIA 46

46 Question 6: Internet Research Project Follow framework: overview, description, and analysis On topic: legal issue related to mtg finance Use headings/sub headings Sample text required 5 marks for presentation UNIVERSITY OF BRITISH COLUMBIA 47

47 Next Webinar Session Project 2 preparation Covers Lessons 7 10 and course overview 20% of course grade UNIVERSITY OF BRITISH COLUMBIA 48

48 Questions UNIVERSITY OF BRITISH COLUMBIA 49