A property has an expected first-year NOI of $1 million. Recent sales of similar properties indicate...

A property has an expected first-year NOI of $1 million. Recent sales of similar properties indicate that a first-year (or going-in) cap rate of 12% is reasonable for valuation purposes. A lender requires a minimum DSCR of 1.25x and will loan up to 75% of appraised value on a first mortgage. Say the mortgage interest rate is 6.75%, payments are monthly, and the amortization period is 20 years. (10 points) Hint: solve for the debt service.

What is the implied loan size using the DSCR criteria?
What is the implied loan size using the LTV criteria?

b) Based on your response to the previous question(s): What is the maximum-sized loan a risk-adverse lender will advance? (5 points)

The loan amount based on the DSCR criteria.
The loan amount based on the LTV criteria.

c) Suppose 10-year Treasury bond yields in the bond market are 7.5% Bond Equivalent Yield (BEY), and the mortgage market requires a contract yield risk premium of 225 basis points above the BEY. If a property has an annual net operating income (NOI) of $400,000, and the underwriting criteria require a debt service coverage ratio (DSCR) of at least 1.25x, then what is the maximum loan that can be offered assuming a 30-year amortization rate and monthly payments on the mortgages? (10 points) Hint: first find the mortgage equivalent yield, and then solve for the debt service.

MEY (%):
Annual Debt Service:
Monthly Debt Service:
Loan Amount:

Solutions

Expert Solution

Part (a):

Given,

First year NOI= $1 Million, Minimum DSCR=1.25x

Therefore, maximum monthly loan payment = ($1Million/12)/1.25 = $ 66,666.67

Loan amount corresponding to the above monthly payments (Implied loan size using DSCR criteria)= $8,767,730.43 as follows:

Also given, Cap rate= 12% and LTV=75%

Property value= NOI/Cap rate= $1,000,000/0.12 = $ 8,333,333.33

Implied loan size using LTV criteria= $ 8,333,333.33 *75% = $6,250,000

Part (b):

A risk averse lender will advance the loan amount based on LTV criteria, ie., $6,250,000 being the lower of the two.

Part (c):

Given, Bond equivalent yield (BEY)= 7.5% and risk premium= 225 bps.

Mortgage equivalent yield (MEY)= BEY+Risk premium= 7.5% + 2.25% = 9.75%

Also given, initial NOI= $400,000 and Minimum DSCR=1.25x

Therefore, annual Debt service= $400,000/1.25= $320,000

Monthly debt service= $320,000/12 = $ 26,666.67

Loan amount corresponding to the monthly debt service= $3,103,827.01 as follows:

jeff jeffy answered 1 year ago

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