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How an apartment loan differs from a home loan

Apartment loan basics 

  • Multifamily loans are properties with five or more units.
  • Multifamily loans resemble commercial loans, although it retains some of the features of home loans.
  • Lenders underwriting multifamily loans look closely at a property’s rental income and the borrower’s ability to service the debt.
  • Multifamily loans — compared to home loans — borrowers can expect higher underwriting standards and more restrictions.

Borrowers seeking a mortgage for a two- to four-unit complex typically won’t find the loan-approval process that much different from purchasing a single-family home.

When applying for an apartment loan on a multifamily property — defined as a complex with five or more units — the underwriting begins to change, however. Although apartments are for residential uses, the loans on multifamily properties resemble commercial loans more than they do home loans. Multifamily loans, however, still retain some features common to home loans.

As with other commercial loans, lenders providing financing for multifamily properties will closely evaluate a borrower’s projected net income from rents — the income left over after expenses. Lenders also will look at the debt-service coverage ratio, which is a measure of the property’s projected income in relation to the amount needed to service the debt.

Typically, lenders will want to see that the net income on the property provides a safe cushion for the borrower to service the debt and to maintain the property. These are standard features of a commercial loan.

Added underwriting standards

Multifamily lenders often request detailed information about the property as well. Lenders may ask for maps that show the location of the property or of other competing properties, for example. They also may inquire about plans for upgrades and whether the owner has plans to raise or lower the rents.

Much like other commercial loans, multifamily loans usually include stiffer prepayment penalties than a standard home loan, which typically has no such barriers to repayment.

One feature of an apartment transaction that is typical of all commercial property deals is that the buyer of the property is usually structured as a limited liability corporation (LLC). Normally, buyers don’t want to own an apartment complex in their name and form an LLC. This protects their other assets from being subject to liability in personal-injury lawsuits stemming from accidents on the property and other causes of action.

Also, larger apartment complexes are commonly built today to include space for retail or other commercial uses. These mixed-use facilities involve more complicated underwriting, and borrowers can expect tougher loan standards for mixed-used facilities.

Residential loan features

As is common with both residential and commercial loans, underwriters also will examine the borrower’s credit history  and assess the amount of the loan requested against the market value of the property (the loan-to-value ratio).

Like residential loans, multifamily loans can be underwritten so that they are eligible to be purchased by the government-sponsored enterprises (GSEs) Fannie Mae and Freddie Mac, which finance a significant amount of the nation’s affordable-apartment stock. Fannie and Freddie do not finance other commercial loan types, however. These GSE-conforming loans can carry a lower interest rate, but the underwriting guidelines are more restrictive. Multifamily loans also can be held in portfolio by lenders.

On balance, however, a multifamily property loan is more like a commercial mortgage, and borrowers can expect a higher level of scrutiny and more rigorous underwriting standards.