Warning: Owner-Occupied Properties aren’t Treated the Same with Typical Commercial Conventional Loan…

Source: Domu Chicago Apartment Site

Source: Domu Chicago Apartment Site

Back in my college years I always pondered about the pizzeria retail store in a small building and the other building right next to it with no retail store, in downtown Amherst, Massachusetts. A few things were always noticeable at the building with the pizzeria such as: high foot traffic, more parked vehicles during weekend, more students around, etc. The ambience was always different. On a raining Friday, while waiting for a bus, I went inside and noticed a tall man who was rarely there. We dialogued for 20 minutes about pizza dough, toppings, and business investing. Surprisingly, he was the owner of the pizzeria and the building, a 5- stories.

This was my first conversation about how owner-occupied properties financing were very different than non-owner occupied. The most important thing I remembered from that conversation was, “there are more credit issues and risks involve because it is two businesses, my property and my pizza shop.” In this brief piece of writing I will share some interesting details that are often overlooked by borrowers when it comes to financing owner-occupied properties. This is crucial for obtaining a commercial real estate loan.

Owner-occupied properties are used or owned by owners to run their businesses. An owner-occupied building can also be a multifamily property where the owner uses a unit/floor to conduct real estate property management business.  Some examples of owner-occupied properties are:

  1. General offices of law
  2. Restaurants and high-end cafes
  3. Retail stores
  4. Fitness Clubs
  5. Motels
  6. Dry Cleaning
  7. Pizzerias

Many banks tend to shy away from lending on these assets due to the higher level of risks associated with them. Additionally, lots of these properties are typically housed by self-employed and very small business owners and many banks do not focus their lending programs heavily on owner-occupied.  With these type of properties, the lender is looking at two different business, hence the higher risks. For instance, Mr. BP owns XXX 6th avenue, a 10-unit multifamily property in Chelsea, NY that generates annual cashflow of $500,000.  Since the property was renovated 20 years ago, Mr. BP thinks it is time to do some capital improvements prior disposing of the property in 5 more years. He goes to the bank and some other lender seeking a $2.5M loan to refinance the property.  In this scenario, there are a multitude of quantitative due diligence and analysis (i.e. NOI, income, expenses, metrics, strengths and weaknesses of the asset, the borrower, changes in demographic, etc.,) that will be conducted prior issuing financing to Mr.BP. The bank and the lender will not look at another business operation.

With an owner-occupied business (a restaurant) that Mr. BP owns, a 7-units, mixed-used, XXXX Silver Road, in Montclair, NJ. The property is cash flowing $250,000 in NOI (net operating income) and the restaurant fluctuate in income depending on the season. Mr. BP wants to borrow $1.5M to expand the restaurant and do some minor capital improvements in the building basement, the 3rd and 7th floor. Each floor is occupied by 3 tenants. Unfortunately, 2 tenants on the 3rd floor left the building at the end of the last lease expiration and for some complicated case the management company for Mr. BP has not replaced the tenants yet.

The underwriting and analysis of this property will differ significantly from the previous one. First, the lender will need to understand not only the operation of the real estate but also the business operation of the restaurant. The underwing and due diligence team will question the vacancy on the 3rd floor like a plague. Second, the bank will want to know if the business is healthy enough to take on the debt of the commercial real estate loan. Thirdly, the credit profile for Mr. BP as well as the business for this transaction will be more scrutinized because of the uncertainty that the restaurant business pose. A lender will not look at the credit profile of a brand name restaurant, a franchise, and self-employed owner restaurant equally from a business perspective. Lastly, the credit analysis and the myriad of due diligence will vary vastly. These factors will determine if this is a worthy owner-occupied property for the bank or a lender to keep on their balance sheet and if the risks are worth managing – hence provide financing.

As the owner mentioned to me many years ago while conversing with him, financing owner-occupied properties are very different than non-owner occupied because of credit issues and risks management implication. Additionally, liquidity plays a huge role as well, especially if the business is cyclical, seasonal, and in a volatile sector. Ultimately, as a borrower, the most important thing to remember is that banks and lenders do not want to become property and asset management companies, holding on 1,000 units of owner-occupied assets on their business books.  In all, it is critical to ensure that (i) your credit profile is decent or solid; (ii) the cash flow of your business operation is strong as well as the real estate NOI; (iii) and have a business plan and robust exit strategy that can explain how the business will cope during time of uncertainty.


By: Ibsen Alexandre
Ibsen Alexandre offers his opinions about real estate finance, business, and investment at www.Refivest.Com and other real estate publications. He can be reached at ibalexandre@refivest.com

The opinions expressed herein are those of the author(s) and do not reflect the view of a particular firm, its clients, any respective affiliates nor any Media Platform. This article is for educational general purposes only and is not intended to be and should not be taken as solicitation to lend.

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