 Sam
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 Posted: Fri Apr 09, 2004 12:33 am Post subject: Maximum Financing |
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Maximum financing involves a loan amount that is within 5% of the highest loan-to-value percentage offered with a particular mortgage.
For example, the maximum loan-to-value percentage of a fixed rate mortgage is 95%, so the maximum financing in this case may range from 90% to any value within 95%.
The amount of loan offered in maximum financing depends on the net operating income, capital cost and debt coverage ratio. Here is a list of some useful terms related to maximum financing.
- Net operating income:
The net operating income (NOI) is the total effective rental income less a vacancy allowance and less the operating costs before making debt payment.
- Debt coverage ratio:
The debt coverage ratio is the ratio of the net operating income to the mortgage payments at a specific rate and amortization period.
- The Debt Coverage Ratio Test:
It determines whether the mortgage payments for maximum financing will exceed the net income available to pay off the debt.
| An example to illustrate the calculation of maximum loan amount based on Capital Cost and Debt to Coverage Ratio Test. | | We shall consider a project with 25 units having monthly rent ranging from $800 to $1,100, with the revenue per unit being $10,000. The operating cost per unit is $4,800. The capital cost per unit is $100,000. Hence the total capital cost is $2,500,000. | Total Number of Units = 25
Revenue per Unit = $ 10,000
Total Effective Revenues = $10,000 X 25 = $250,000
Operating Cost per unit = $4,800
Total Operating Costs = $4,800 X 25 = $120,000
Capital Cost per Unit = $100,000
Total Capital Costs = $100,000 X 25 = $2,500,000 | | Step - I : Calculate NOI | To calculate the maximum loan amount, first the net operating income of the borrower is calculated.
The Net Operating Income = (Total effective rental revenue - operating costs).
The total effective revenue is $250,000 and operating costs amount to $120,000. The net operating income comes out to be $130,000. | Net Operating Income = Total Effective Revenue - Total Operating Costs
Net Operating Income = $250,000 - $120,000
Net Operating Income = $130,000 | | Step - II : Calculate Annual Payment | The maximum loan amount is considered to be 95% of the total capital cost. The total capital cost being $2,500, 000, the maximum loan amount should be $2,375,000.
The total annual payment on such a mortgage at 7.5% rate and an amortization period of 30 years is $199,000. | Max. Loan based on Capital Cost = Total Capital Costs X 95%
Max. Loan based on Capital Cost = $2,500,000 X 95%
Max. Loan based on Capital Cost = $2,375,000
Therefore,
Annual Payment (7.5%, 30 Yrs) = $199,000 (Approx.) | | Step - III : DCR Test | The ratio of net operating income to annual mortgage payments is equal to a DCR of 0.65. The DCR being less than 1, it indicates that the income is not sufficient to pay off the loan.
The income that can support the mortgage payments = NOI/1.0, that is, $130,000. Considering an interest rate of 7.5% and an amortization period of 30 years at DCR1.0, the mortgage amount comes out to be $1,550,000. | DCR = Ratio of NOI / Annual Mortgage Payment
DCR = 130,000 / 199,000
DCR = 0.65Max. Annual Payment at max. DCR 1.0 = $130,000
Max. Loan at max. DCR 1.0 = $1,550,000 (Approx.) | | Step - IV : Determine Maximum Loan | The maximum loan amount is the lesser of 95% of the Capital Cost or the debt that can be supported at the specified rate and DCR of 1.0.
Hence, the maximum loan is 1,550,000. | Maximum loan is the lesser of :
95% of Capital Cost or = $2,375,000
Or, Debt supportable at 1.0 DCR = $1,550,000
Maximum Loan = $1,550,000 |
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