30 October 2010
What formula do banks use to determine the value of commercial property?
Posted by admin under: Renting & Real Estate .
I am considering investing to my property before I sell it but need to come up with a budget and projections of what my property will be worth when Im done. I have a good idea in figuring this out but I need to know what the banks look at to see how realistic this may be.
Well, thanks but I was hopping for a little more. Like total income multiplied by 8.5 (NY’s tax assesment formula). Something like that.
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5 Comments so far...
33thirtythree33 Says:
1 November 2010 at 7:05 am.
Hopefully you are an LLC
golferwhoworks Says:
2 November 2010 at 2:37 am.
appraisal is required and depending on the size then it may require 2
Peter J Says:
4 November 2010 at 3:39 pm.
location,intrinsic/ market value and soundness of structure etc, plus potential income it can generate per month
David Z Says:
7 November 2010 at 10:32 pm.
they use 3 different methods but it is essentially a present value of the cash flows. 8.5 times income would be a similar method.
rich8259 Says:
10 November 2010 at 1:52 am.
Banks have a variety of ways of analyzing a commercial real estate asset but there are a few guidelines they all use. The primary number of importance to a lender is NOI or Net Operating Income which is simply income minus expenses. As simple as that is, the calculation can vary dramatically.
Income is fairly simple – take the income of the property (what you collect from your tenants whether it be office, retail or multi-family or industrial) subtract a vacancy factor (banks use a vacancy factor common to the product type and location) and that gives you a Gross Operating Income.
Expenses include items such as Property taxes, Insurance, maintenance, management, utilities and Reserves to name a few. Subtract your total expenses from your Gross Operating Income and that is your NOI.
From there banks use something called a DCR which stands for Debt Coverage Ratio which can vary depending upon location and risk factors. The higher the risk, the higher the DCR. Think of the DCR as kind of a buffer for the NOI and in essence will provide the lender a number they are confident the property will produce. The lender, especially in today’s environment, will be extremely conservative in their underwriting. In other words they will be very conservative with the income, probably use a higher vacancy factor than what the property actually has, will beef up the expenses to come up with a very conservative NOI.
From that point, the bank will use the revised NOI divided by the DCR and that will be the number they will be comfortable with that the property will produce to pay back a loan. They will essentially back into a payment and come up with a loan amount typically referred to as an LTV (Loan to Value) which again will vary on location and risk. Of course, lenders also look very closely to recent sales comparables and and rent comparables and will always have the property professionally appraised before deciding on a final loan amount.
This is a basic “101″ explanation that hopefully gives you an idea. I recommend that you visit your local area banks and see if they will evaluate your property. You will find that if you go to three banks you will probably receive three different evaluations. Good Luck.