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Understanding CMBS Loans

Terrydale Capital

September 15th, 2022 · 5 min read

With so many loan types available, it’s important for commercial real estate investors to understand their financing options. A commercial mortgage-backed securities (CMBS) loan represents an attractive option and can be used to invest in properties of any size. 

This guide will introduce you to CMBS loans and how they might benefit your investment strategy.

What Is CMBS Loan?

CMBS loans are secured by a first-position mortgage and used for commercial properties of various sizes.

While it’s possible for some consumer banks to offer CMBS loans, you’ll typically have to shop elsewhere. CMBS loans are more commonly packaged and sold by conduit lenders, investment banks, or other commercially-oriented financial institutions.

How Do CMBS Loans Work?

A CMBS loan is secured by a first-position mortgage, which means that this mortgage counts as the first lien and is the first to have its debts paid. CMBS loans are usually packaged and sold as a secured series of bonds. Series bonds are organized according to similar levels of risks and rewards, and the organized set is known as a “tranche.”

The exact features of a CMBS loan can vary depending on the terms of the loan itself and the lender who offers it. The following are the most common features to watch for in a CMBS loan:

Risk Level

CMBS tranches are organized based on their respective level of credit risk. The lowest-risk tranches are known as “senior” and correspond to a higher credit rating. The highest-risk tranches are known as “junior” bonds. The more risk associated with a tranche or loan, the more the lender will have to absorb potential losses.

Lenders will assess risk based on your financial history and credit score, as well as the investment base and overall earnings potential. Each lender has its own system for determining risk, so don’t be surprised if the process looks slightly different between them.

Fixed Interest Rates

Most CMBS loans have fixed interest rates, though the exact rate varies by term length. The rate will vary by your risk level, the amount of the loan, the loan term, and the lender itself. As of the date of this letter September 15th, 2022, Terrydale Capital offers fixed interest rates as low as 5.0%.

Term Length and Amortization

Amortization schedules typically range between 25 and 30 years. Term lengths can vary depending on cash flow analysis, your credit risk profile, and the lender itself. Terrydale Capital, for instance, commonly offers five, seven, and ten-year fixed terms.

CMBS loans end with a balloon payment. Upon maturity, borrowers can pay the loan from the proceeds of selling/renting the property or by refinancing the loan.

Rent Clause

The most common types of prepayment penalties on CMBS loans are

Because of these fees, it’s best to secure the most favorable loan terms before you take out the loan, which allows you to avoid any penalties. This approach also means it’s important to align your investment schedules with the loan itself so you’re able to meet your repayment schedule.

Loan Assumption

When you sell your commercial real estate property with the CMBS loan still attached, it’s known as loan assumption. The loan transfers to the buyer, who will be bound to the same loan terms and documents. Though this avoids prepayment penalties, there are some loan assumption fees needed to transfer the loan to another party.

Advantages of CMBS Loans

Knowing the pros and cons of CMBS loans can help you better decide how to use them for your real estate investments. Here are just some of the advantages of CMBS loans:

Leverage

Leverage is a consideration for borrowers who already have large amounts of debt or little credit. This situation is hardly uncommon among commercial real estate investors, who already carry existing debt from loans on other properties.

CMBS loans typically offer greater leverage than other non-recourse loans found in smaller markets. Some of the best CMBS loans are able to achieve leverage between 75% and 80%. Terrydale Capital borrowers can obtain leverage as high as 80%.

Non-Recourse Loans

In a non-recourse loan agreement, the lender can only seize the collateral specified in the loan agreement if the borrower fails to repay the loan. Non-recourse CMBS loans do not require a personal guarantee from the sponsor.

A personal guarantee usually means that the borrower’s assets can be seized to repay at least a portion of the loan if the recipient defaults. Since these loans don’t require a personal guarantee, investors take on less risk when they take out a CMBS loan, which can give them greater working capital for their commercial real estate businesses.

Flexible Loan Structure

CMBS loans offer some surprisingly flexible options when it comes to loan terms and structure. Loan terms of up to ten years are available with options for five-year or seven-year terms as well. Most lenders offer a 30-year amortization schedule, which can reduce your monthly payments.

Depending on your lender, you may also take advantage of full or partial-term interest-only payments, which can reduce your overheads and give you more working capital during these payment cycles.

Disadvantages of CMBS Loans

Despite these advantages, there are some disadvantages of CMBS loans that investors should consider carefully.

Higher Cost

Compared to other forms of bank financing, CMBS loans can be costly. Price considerations include the loan itself and the higher closing costs that occur at the time of origination.

These costs can be worthwhile given the financial advantages noted above, but you’ll need to consider all of your options as you venture further in your commercial real estate strategy.

Timing

A CMBS loan will usually have a longer closing timeline than traditional bank financing. This setup is by design, of course, since this allows you more time to accumulate the capital to meet your repayment terms. 

But this setup also locks you into a long loan period, with penalties attached to prepayment. Make sure to consider how long you’re committing to the loan before you pursue a CMBS loan.

Larger Loan Amounts

On the one hand, the larger loan amounts are great for those who need to invest in commercial real estate properties of varying sizes. But if you just need a smaller loan for an individual property, a CMBS loan can prove to be overkill, prompting you to look for a different form of real estate financing.

When to Use a CMBS Loan

It’s easy to see why CMBS loans are a popular option among real estate investors. But is a CMBS right for you? Ultimately, this determination depends on the property itself more so than the loan. 

The financial performance of the property is the driving force behind your success, and you’ll want to consider loan options that align with your investment goals.

With that being said, if you plan on investing in larger investment properties, or simply prefer longer loan terms, then a CMBS loan can be ideal. As with any real estate loan, make sure to compare rates from two or three lenders to ensure you get the best terms.

Get A Quote Today

Terrydale Capital offers financing options for a variety of borrowers and investors. When you’re ready to see if a CMBS loan is right for you, contact Chris Formichella at Terrydale Capital for the most competitive terms.

We even offer full-term interest-only payment terms to meet your investment goals. Get a quote today and mention code “CMBS” to get a free appraisal cost waiver with Terrydale Capital financing.

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