There are a few terms that are important to know when it comes to business loans. Not understanding terms like anchor, fixed costs, and debt service can leave you stumped.
When looking at an income-producing property, one of the most important key factors that you need to fully understand is net operating income. NOI is your bread and butter when it comes to property that puts money in your pocket.
To analyze the potential income you would receive from a property, there are a couple of ways. Two types or rents that you charge to take into account. The first is the contract rent, which is the current rent being collected. Market rent what would rent the space on the open market, so its name implies.
When appraising a property, you’ll want to put together a spreadsheet that combines the market rent for vacant units and the contract rent for full units. To get the market rent, you will need to collect some data, usually a market survey will be required. When entering this data, make a note of whether or not your market rent is higher than the rental agreement, this is not a good sign and the value of the property will not be satisfactory.
Within the origination of a commercial loan, an income system is used, which means that the net operating income will have to be calculated. Blocking income is the first step, then you will need to calculate expenses. When calculating the expenses, all are added except the mortgage expense. Even with expenses, there are two types, as you might expect, they are fixed and variable.
A variable expense is something like an electric bill that fluctuates from month to month. A fixed expense is one that stays the same. When combined operating expenses are calculated, actual gross income is calculated. The EGI is the property income when the vacancy element is included. The EGI subtracts the operating expenses and then you will have the net operating income.
Finally, when you use a combination of NOI and cap rate, you can find the value of a commercial property that interests you. Lenders look at things like a property’s pre-tax cash flow and annual debt service. The key to all of this is understanding and being comfortable with the NOI because, as you can see, you will not only be using it to appraise the property, but for lenders as well.