Commercial Lending Glossary
A glossary of definitions for common terms used in commercial real estate hard money lending & CRE investing.
ABA Routing Number
Also known as the "routing number" or "routing transfer number," this sequence of nine numbers is used to identify financial institutions within the United States. The ABA is used for electronic transactions such as direct deposits, e-checks, and tax payments, and is frequently (but not always) located at the bottom of bank checks.
The amount of time between interest rate adjustments of adjustment rate mortgages (ARMs). For example, a 1-year ARM adjusts every year, so the interest rate adjustment period is one year. Also known as the "interest rate adjustment period."
Adjustable Rate Mortgage (ARM)
This type of mortgage loan carries an interest rate on the note which is periodically adjusted based on an index reflecting the lender's cost of borrowing on the credit markets. ARMs are capped on charges and are regulated by the Federal government. Outside of the United States, the term "variable-rate mortgage" is more common.
The process of paying off debt in regular installments over a period of time with a fixed repayment schedule. Amortization commonly refers to the payments made on mortgages or car loans, but can also refer to the spreading out of capital expenses over a specific duration.
Annual Percentage Rate (APR)
The annual rate charged for borrowing, or the annual rate earned through an investment - expressed as a percentage. APR represents the actual yearly cost of funds over the term of a loan, including additional costs and fees associated with the loan. While this rate does not factor in compounding, it helps create a standard for understanding the total costs of borrowing to mitigate the variation between loans and credit agreements.
This popular form of property valuation represents an estimate of an authorized person, known as an appraiser. Appraisals may include many different types of valuation methods to determine a value, including the quality of the property, its features, and the current market value of other similar properties. There are many applications for appraisals, including for insurance or taxation purposes, to determine a selling price, and to secure proper loan values.
The increase of the value of an asset over time. Whether due to increases of demand, weakened supply, or simply due to inflation or other market changes, appreciation refers to increases in value of a wide set of assets, from real estate to antiques and beyond. Can be contrasted with depreciation.
An account is "in arrears" if one or more (contractually required) regular payments have been missed. This overdue debt can apply to rent payments, mortgages or other loans, and various types of utility bills.
A resource with some economic value. Resources like this are held by a wide range of groups ranging from individuals to nations, and are reported on balance sheets. Assets are controlled with the expectation they will provide some future benefit, economic or otherwise, to the firm. Assets can include real estate, machinery, funds, patents, or other resources.
This payment is due at the end of a "balloon loan," and is a larger payment than the typical payment during amortization of the loan. Typically, balloon loans are associated with relatively short terms during which only part of the loan's principal balance is repaid. The remaining balance, usually at least double the amount of other payments, is left as a final repayment.
The status of an individual or legally recognized entity which is unable to repay its debts to creditors. Although there are many forms of bankruptcy with specific implications, in most cases it is initiated by the debtor and imposed through court order.
Before Tax Income
Also referred to as "gross income," this accounts for the income of a company or individual prior to taxes and other deductions. This income includes an individual's salary or wages earned, investment/asset appreciation, and earnings from any other income sources. The corporate calculation is calculated by measuring revenues minus expenses.
This individual receives any advantage, profit, or benefit from something, and generally refers to someone (or an entity) who is set to receive distributions from a life insurance policy, will, or trust.
This type of loan is used to fund the purchase of more than one piece of real estate. Popular among developers and builders, blanket loans are frequently used to purchase large pieces of land in order to divide them into individual parcels, rather than securing a separate mortgage as each portion of the development is sold. Through a blanket loan, as each portion of the development sells, a portion of the larger, intact mortgage is released.
This type of short-term loan is used until an entity, company, or individual secures permanent financing or removes a debt. By providing immediate cash, it serves to bridge the gap during periods when financing might not otherwise be available. Bridge loans hold short terms of up to one year, carry high interest rates, and are generally backed by real property or inventory as collateral.
Building classifications in most markets refer to Class "A", "B", "C" and sometimes "D" properties. While the rating assigned to any particular building is very subjective, Class "A" properties are typically newer buildings with superior construction and finish in excellent locations with easy access and attractive amenities and command the highest rental rates within their sub-market. As the "Class" of the building decreases (i.e. Class "B", "C" or "D") one component or another such as age, location, or construction of the building becomes less desirable.
A financing technique through which a buyer attempts to secure a lower interest rate for at least the first few years of a mortgage. The seller offers payments to the lending institution, which then lowers the borrower's monthly payment by lowering the monthly interest rate. To compensate for these costs, the home seller increases the purchase price of the property.
Financial assets or the financial value of assets. These assets can include facilities, equipment, or funds in deposit accounts, but do not include materials produced. Though associated with money, capital is considered a more durable asset and intended to generate wealth.
Unleveraged initial yield on the investment. The cap rate is expressed as the annual Net Operating Income (NOI) divided by the property price (or asking sales price). Also referred to as the "capitalization rate."
This type of improvement refers to a change or restoration performed on a property intended to either lengthen its useful life, grow the property's value, or adapt it to a new use. Legally, these improvements or additions must be expected to last longer than one year, and can be performed by companies and individuals alike.
Cash Advance Loan
A form of short-term borrowing through which an individual borrows a small total at a high interest rate. Typically, a lender will accept a post-dated personal check in a specified amount (plus a fee) in exchange for cash, and will then cash the check on a specific date. Also known as "payday loans" or "check advance loans."
Cash Out Refinance
This mortgage refinancing option occurs when a borrower refinances for an amount greater than the amount they owe, taking the rest in cash. May also be referred to as a "cash-out refi."
Certificate of Reasonable Value
A document issued by the Department of Veterans Affairs (VA) which establishes a maximum value and loan amount for a VA Loan.
An asset, property or otherwise, that a borrower offers up to secure a loan. Conditionally, the lender can seize this collateral in the instance the borrower ceases to make loan payments as outlined in the agreement.
Combined Loan-to-Value (CLTV)
The ratio of all loans being secured by a property to that property's value. For example, if an individual takes out two loans on their property (valued at $100,000), one loan for $25,000 and one for $50,000, the CLTV ratio is 75%. This ratio can be visualized as (($25,000 + $50,000) / $100,000).
Commercial Real Estate
A major type of real estate, this property is used for business purposes rather than for living space. These properties are often leased out to provide workspaces, and serve a variety of purposes, including offices, hotels, restaurants, shopping centers, and movie theaters.
Common Area Maintenance (CAM)
This is the amount of additional rent charged to the tenant, in addition to the base rent, to maintain the common areas of the property shared by the tenants and from which all tenants benefit. Examples include: snow removal, outdoor lighting, parking lot sweeping, insurance, property taxes, etc. Most often, this does not include any capital improvements that are made to the property.
The addition of interest to the principal total as the result of reinvesting interest. Compound interest is common in both loans and deposits and can be contrasted with simple interest.
Certain benefits offered by a landlord or property owner in negotiations to attract tenants. These most often take the form of free rent but may also include lease buyouts, moving allowances and above-standard tenant improvement allowances. In a hot real estate market concessions are difficult to negotiate.
A potential, future negative event. Viewed as possible risks by managers and financial professionals, contingencies may take a wide array of forms, from natural disaster to intellectual theft, terrorism to fraud. Contingency plans are often created in response to the most likely events, and lay out solutions and actions to be taken should that contingency take place.
The contractual agreement in which a borrower agrees to repay a lender at a later date (usually with interest), receiving something of value in the immediate. Credit is also often used to describe the history or "creditworthiness" of an individual or business, and is used to qualify or disqualify that person or entity for lending opportunities.
An organization that rates consumer credit histories and sells that information to creditors. This credit information may be used by credit card companies, banks, or other companies who are looking to gain insight into an individual's creditworthiness.
An amount of money borrowed and owed. Can apply to both individuals and companies, debt allows one to make a purchase they would otherwise be unable to. Generally, the borrower and lender enter some sort of agreement for the borrower to repay at some point.
The process of combining multiple unsecured debts into one bill. Debt consolidation can be applied to a range of bills, including credit cards, medical bills, payday loans, and helps to eliminate the potential risk of incorrect, late, or missed payments.
The loss or use of an asset's value over time. This loss can be due to routine wear and tear on a piece of equipment or other tangible asset, or due to market fluctuation on a piece of property. Can be contrasted with appreciation.
The Equal Credit Opportunity Act, popularly known as the ECOA, is a 1974 law which makes unlawful the discrimination of applicants-based on race, color, religion, national origin, sex, marital status, or age-by any creditor. Failure to comply can subject a financial institution to civil liability for various damages.
Electronic Funds Transfer (EFT)
The electronic transfer of money between banks. An EFT can take place between multiple financial institutions or within a single institution, and can include payments made with a credit card, direct deposits or debits, wire transfers, and e-checks.
A claim against a property by a party that is not the owner. Most commonly, an encumbrance will be a mortgage, easements, or property tax liens - regardless of type, encumbrances impact the property's ability to be transferred, and usually must be cleared before the property can be freely used again.
The Fair Credit Reporting Act, or FCRA, is a 1970 law enacted to facilitate fairness, accuracy, and privacy of consumer information by consumer reporting agencies. The FCRA regulates collection, transfer, and use of this information to protect consumers.
A popular type of credit score used by lenders to assess borrowers' credit risk. FICO scores consider five areas: current level of indebtedness, payment history, types of credit used, new accounts, and length of credit history.
Fixed Rate Loan
A type of loan with an interest rate that will not fluctuate. Fixed rate loans make it easier for borrowers to predict and plan for their payments. Can be directly contrasted with variable rate loans.
Hard Money Loans
A type of asset-based financing through which a borrower receives funds secured by real property. Typically issued by companies or private investors, hard money loans tend to carry higher interest rates and shorter terms.
A type of account owned by multiple individuals rather than just one. Both banking and brokerage accounts can be shared among couples, relatives, or business partners.
To give an individual or entity money or an asset under the condition of repayment (usually with interest). Lenders can be individuals, companies, or banks, and may provide funds for many reasons.
A legal right which serves to guarantee an underlying obligation, such as a repayment of a loan. Liens can be acquired by a creditor or granted by the property owner or a law. If the underlying obligation is not satisfied, the creditor can seize the asset.
Line of Credit
A line of credit, or LOC, represents an arrangement between a financial institution and customer that gives the borrower access to a specified amount of funds. The borrower can access funds from the LOC at any time, limited by the maximum balance as set out in the agreement.
The extent to which a person or entity has cash to meet immediate or near-term obligations. Liquidity can also include assets which can quickly be converted for the same purpose. In a market context, liquidity refers to how readily assets within that market can be bought and sold. While cash is the most liquid asset, assets such as real estate or antique cars are much more illiquid.
The difference between a product's selling price and its production cost. Margin is also used in a corporate context to refer to the ratio between revenue and expense.
The smallest portion of a bill that must be paid each billing cycle. This minimum is usually based on one of a few things: a percentage of the newest balance, your interest charges and late fees plus a flat dollar amount, or a flat dollar amount. Generally, if your balance is smaller than your minimum payment, your minimum payment will then be the same as your balance.
The net change in occupied space in a market between the current measurement period and the last measurement period, including decreases and increases in inventory levels. It is recommended to disclose the inclusion (Total Net Absorption) or exclusion (Direct Net Absorption) of sublease space in any calculation of net absorption. Net absorption can be either positive or negative.
Net Operating Income (NOI)
A calculation used to analyze real estate investments that generate income, and includes all revenue from the property minus all necessary operating expenses. Revenue might include rent, parking fees, and service fees, such as vending and laundry machines. Operating expenses are those required to run and maintain the building and its grounds, such as insurance, property management fees, utilities, property taxes, repairs, and janitorial fees. NOI is a before-tax figure; it also excludes principal and interest payments on loans, capital expenditures, depreciation and amortization.
Also known as an interest rate cap, this is a type of interest rate derivative in which a buyer receives payments should the interest rate exceed the agreed strike price. For example, should a specific rate exceed 2.5% during a month, the rate cap would be an agreement to receive a payment that month.
REIT (Real Estate Investment Trust)
A security that invests in real estate directly, either through properties or mortgages. REITs sell like stocks on the major exchanges, receive special tax considerations, and typically offer investors high yields, as well as a highly liquid method of investing in real estate.
A type of loan utilized to purchase REO, or "real estate-owned", properties. REO is a class of property owned by lenders. If a borrower has failed to make payments and defaulted, the institution will attempt to sell the property at a foreclosure auction. In the case that no bidders are interested in the property, the institution will legally repossess the property and it will be listed in their books as REO.
Return on Investment (ROI)
A performance measure used to evaluate the efficiency of an investment or to compare the efficiency of several different investments. To calculate ROI, the benefit (return) of an investment is divided by the cost of the investment; the result is expressed as a percentage or a ratio. This calculation can be visualized as (Return of Investment / Cost of Investment).
A loan secured by some sort of collateral. Collateral may include real estate or other assets, and helps to mitigate the risk for the lender. Can be directly contrasted with unsecured loans.
A broad term for a revolving line of credit (LOC) granted to an individual or business, or a fixed loan with a short term. When a bank extends short-term credit for a business purchase, this will generate short-term debt for the borrower until repayment is made.
Interest process by which the additional interest is not added to the principal sum. A relatively common process in economics and finance, simple interest can be contrasted with compound interest.
Tenant Improvements (TI)
The customized alterations a building owner makes to rental space as part of a lease agreement to configure the space for the needs of a particular tenant. Tenant improvements may include changes to walls, floors, ceilings, lighting, and others. In practice, these customized tenant improvements usually have a useful economic life of 5 to 10 years, which spans the average commercial lease term. The total amount a landlord is willing to spend is referred to as the tenant improvement allowance.
The period of time designated as the "lifespan" of an investment or repayment period. For investments, the term refers to the elapsed time between acquisition and sale of an equity; for debt, the term refers to the time it takes for the borrower to make all payments to the lender.
Triple Net Lease (NNN)
A lease agreement that designates the lessee (the tenant) as being solely responsible for, in addition to the rent fee, the three separate types of net costs associated with leasing the asset. The structure of this type of lease requires the lessee to pay for net real estate taxes on the asset, net building insurance, and net common area maintenance.
The process by which financial institutions assess the risk and creditworthiness associated with a potential customer or loan applicant. Considerations made within the underwriting process may include employment history, financial statements, salary, and credit reports.
A loan supported only by the borrower's creditworthiness rather than collateral. For example, a borrower with a high credit rating may be issued a loan without requiring a piece of real estate to be used as collateral. Can be directly contrasted with secured loans.
Variable Rate Loan
A type of loan with an interest rate that fluctuates, generally anchored to current standard market rates. Can be directly contrasted with fixed rate loans.
Income return on an investment. Expressed as a percentage rate based on the investment's cost, yield includes dividends or interest received from holding a security and can experience fluctuations associated with the market.