If you are just starting out in the commercial real estate world, then you have probably heard of CMBS loans. It is essential for you to know what a CMBS loan is and how it works as this may aid you in making prudent decisions when it comes to your commercial property investment ventures in the future.
What is CMBS?
A CMBS loan, which stands for Commercial Mortgage-Backed Securities loan, is a protected and tenable loan usually offered on commercial properties. Also called conduit loans, CMBS loans have recently been on the rage these days when it comes to commercial real estate financing. This secured loan provides liquidity both to commercial lenders and to the real estate investors.
This loan is mainly reserved for commercial real estate with a stabilized price for several years. As soon as the financier has verified and ascertained that the real estate has a stabilized value for a couple of years, the CMBS loan can be made.
CMBS loans are popular with both investors and lenders due to their lenient credit requirements and lower prepayment risk. Usually, they follow agreed fixed-rate terms of either 5, 7, or 10 years.
Qualities of a CMBS Loan
In general, CMBS lenders have more lenient financing standards than banks. Thus, it is no wonder why real estate investors and lenders opt to opt for this type of loan. CMBS loans usually have the following qualities to fulfill with REMIC regulations, except for some instances.
- A preset interest rate with interest-only period
- Term lengths of up to 5, 7, to 10 years and occasionally could go up to 15 years
- A period of amortization up to 25 to 30 years
- Balloon payment at the end of the term
- Loan-to-value ratio not exceeding 75%
- Debt Service Coverage Ratio of at least 1.25 times
- Debt yield which starts at 7 percent
- Debtor net worth requirement of at least 25 percent of the amount borrowed
- 5% post-closing liquidity of the credit amount
- It can be assumed but with a specific fee. For instance, the owner of the property on a CMBS loan would want to sell the property. Thus, the buyer must be eager to take responsibility for the loan to avoid prepayment penalty.
- Naturally, they will not allow other supplemental or secondary financing
- Oblige the debtor to dismiss reserves for insurance, taxes, and other important purposes
- Advance payment penalty structures of yield maintenance or defeasance
How CMBS works
Commercial Mortgage-Backed Securities loans are accessible for several commercial properties which include retail properties, multifamily properties, industrial buildings, warehouses, office buildings, hotels, and self-storage facilities among others which. These loans are also found with a wide array of lender types such as financial services firms, pension companies, life insurance companies, and other investing institutions.
Usually, these loans offer higher control and lower interest rates for business owners as compared to traditional loans which make them a more flexible and accommodating option for all investors. This flexibility consents to more secure and protected investment opportunities and lets the investor in question control the terms in order to sustain in a good and secure financial situation.
These mortgages can be combined with other commercial mortgages and integrated into a marketable security. Then, the security is later sold on the CMBS market. This market is an auxiliary market where commercial mortgage-backed securities are being sold and traded amongst CMBS investors. This procedure is called securitization. This process allows commercial mortgage debtors to reach a larger group of capital and investors that could help finance the ownership of the commercial real estate.
It is good to note that those who prefer to utilize these types of loans will obviously not make payments or settlements directly to the lender, but instead to a commercial mortgage servicer. There will also be instances when repayment must be made in time or cannot be made, depending on the company that offers the loan. These are very important details that should be discussed or tackled with qualified personnel of the company you are choosing to deal with before you make any secure commitment.
Forestallment of CMBS Loans
CMBS and other financing structures usually have either one of these advance penalty structures which is usually a huge sum of money to the borrower.
- Defeasance – The conduit loan and note stay in place. The firm replaces the commercial real estate property with Treasury bonds in place of collateral. The loan then is assumed by the successor borrower. This successor borrower then allows the sale or the refinance of the property. The bonds which work as collateral will be used to cover up loan payments in the future. When the time comes that the Treasury bond’s average profit will surpass that of the CMBS loan, it will be much cheaper to buy the bonds to include the outstanding principal and interest costs.
- Yield Maintenance or YM – Yield maintenance happens when the credit is paid off and the mortgage note terminates even before reaching the maturity date. This penalty structure is aimed to allow bond investors to get the same profit they would have received even before the prepayment. The Note of the Loan Documents includes the loan’s due principal amount and the prepayment penalty. The prepayment penalty is the difference between the original interest rate of the loan and the replacement rate. Usually, the least prepayment penalty is about 1%.
The gravity of the prepayment structures is the highest when there is still a significant amount of time that stays awaiting the maturity date. This also exacerbates if the treasury bond market plummets significantly.
In a nutshell, investing in a commercial real estate property has never been easy. But, thanks to the emergence of CMBS loans, it is made more practical and a whole lot easier. Again, before you make any certain commitments, it is best to seek advice and consultation with a trusted expert in the field. This is to ensure that you are making the right move for your financial independence, stability, and success.