The acceleration clause is the section in a mortgage that says if the borrower sells the property or places a second mortgage / mezzanine loan on the property that the bank can immediately demand to be paid in full.

Appreciation is usually projected as a percentage of the property’s value over the course of a year.

A bond that is backed by a mixed collection of security, such as car loans, credit card paper, aircraft loans, scratch-and-dent residential loans, and subprime commercial loans.

BER is a ratio some lenders calculate to gauge the proportion between the money going out to the money coming in so they can estimate how vulnerable a property is to defaulting on its debt if rental income declines. BER reveals the percent of income consumed by the estimated expenses.

(Operating Expense + Debt Service)

÷ Gross Operating Income

= Break-Even Ratio

A bridge loan is a short-term loan used until a person or company secures permanent financing or removes an existing obligation. This type of financing allows the user to meet current obligations by providing immediate cash flow. The loans are short term, up to one year, with relatively high-interest rates and are usually backed by some form of collateral such as real estate or inventory.

The B-piece buyer is the buyer of the mortgage-backed bonds rated lower than BBB by Standard & Poors.  The B-piece is often called the first loss piece, and it is by far the riskiest investment in the offering.  B-piece buyers enjoy a lot of power because without someone to buy the first loss piece, the offering will fail.  They therefore enjoy very high yields , sometimes as high as 20%.  They also enjoy the right to kick weak loans out of the mortgage pool, creating thereby scratch-and-dent loans that have to be sold off by the sponsor of the offering at a discount.

A black hair is a slang term used in the commercial real estate finance community to describe a flaw, deficiency, or weakness in a commercial loan application.  In real life, virtually every commercial loan application has at least one or two black hairs.

A bond is a promissory note whereby the borrower promises to pay back money to an investor.  Bonds are typically issued by companies or trusts, as opposed to by individuals.

Buy-to-rent loans are loans made to investors to allow them to buy residential properties (1-4 family dwellings), usually single family residences, and then rent them out for the long term.

This popular return expresses the ratio between a rental property’s value and its net operating income. The cap rate formula commonly serves two useful real estate investing purposes: To calculate a property’s cap rate, or by transposing the formula, to calculate a property’s reasonable estimate of value.

Net Operating Income

÷ Market Value

= Cap Rate

OR

Net Operating Income

÷ Cap rate

= Market Value

CoC Return is the ratio between a property’s cash flow in a given year and the amount of initial capital investment required to make the acquisition (e.g., mortgage down payment and closing costs). Most investors usually look at cash-on-cash as it relates to cash flow before taxes during the first year of ownership.

Cash Flow Before Taxes

÷ Initial Capital Investment

= Cash on Cash Return

CFBT is the number of dollars a property generates in a given year after all expenses but in turn still subject to the real estate investor’s income tax liability.

Net Operating Income

less Debt Service

less Capital Expenditures

= Cash Flow Before Tax

A cash flow property is an investment property that generates a surplus of money each month after all expenses have been paid. Cash flow properties are highly sought after by investors.

The capital stack is the sum of the first mortgage plus any second mortgage plus any mezzanine loans plus any preferred equity plus the buyer's down payment or the developer's equity contribution.  In plain English, its the sum of all of the pieces of food that make up the whole hamburger; e.g., the first bun, the beef patty, the cheese, the onion, the lettuce, and finally the second slice of the bun.   

The Contingency Reserve is that part of the construction loan budget that is reserved to cover cost overruns.  It is usually calculated as 5% of hard and soft costs.

DCR is a ratio that expresses the number of times annual net operating income exceeds debt service (i.e., total loan payment, including both principal and interest).

Net Operating Income

÷ Debt Service

= Debt Coverage Ratio

DCR results:

Less than 1.0 – not enough NOI to cover the debt

Exactly 1.0 – just enough NOI to cover the debt

Greater than 1.0 – more than enough NOI to cover the debt

The Debt Service Coverage Ratio is defined as the Net Operating Income of the proposed project, as projected by the appraiser, divided by the annual principal and interest payments on the proposed takeout loan.  A takeout loan is just a garden-variety permanent loan that pays off a construction loan.  Remember, the construction loan will only have a 12 to 18 month term.  As soon as the project is constructed and leased out, the developer will rent it out.  When it is 90% occupied, the developer will apply to a permanent lender, typically a money center bank, for his takeout loan.

Debt Service Coverage Ratio = Net Operating Income / Proposed Annual Payment on the Takeout Loan

The Debt Service Coverage Ratio is customarily expressed to two digits, such as 1.17 or 1.32.  The Debt Service Coverage Ratio must usually exceed 1.25.  In other words, the projected Net Operating Income, as determined by the independent appraiser selected by the bank, must be at least 125% of the annual principal and interest payment on the proposed takeout loan.

The Debt Yield Ratio is defined as the Net Operating Income (NOI) divided by the first mortgage debt (loan) amount, times 100%.  For example, let's say that a commercial property has a NOI of $437,000 per year, and some conduit lender has been asked to make a new first mortgage loan in the amount of $6,000,000.  Four-hundred thirty-seven thousand dollars divided by $6,000,000 is .073.  Multiplied by 100% produces a Debt Yield Ratio of 7.3%.  What this means is that the conduit lender would enjoy a 7.3% cash-on-cash return on its money if it foreclosed on the commercial property on Day One. The Debt Yield Ratio is defined as the Net Operating Income (NOI) divided by the first mortgage debt (loan) amount, times 100%.  For example, let's say that a commercial property has a NOI of $437,000 per year, and some conduit lender has been asked to make a new first mortgage loan in the amount of $6,000,000.  Four-hundred thirty-seven thousand dollars divided by $6,000,000 is .073.  Multiplied by 100% produces a Debt Yield Ratio of 7.3%.  What this means is that the conduit lender would enjoy a 7.3% cash-on-cash return on its money if it foreclosed on the commercial property on Day One. 

A provision in a mortgage or deed of trust that prohibits junior financing. If you put a second mortgage on the property, the lender has the right to accelerate the loan and demand that you pay him off in full.

GOI is gross scheduled income less vacancy and credit loss plus income derived from other sources such as coin-operated laundry facilities. Consider GOI as the amount of rental income the real estate investor actually collects to service the rental property.

Gross Scheduled Income

less Vacancy and Credit Loss

plus Other Income

= Gross Operating Income

GRM is a simple method used by analysts to determine a rental income property’s market value based upon its gross scheduled income. You would first calculate the GRM using the market value at which other properties sold, and then apply that GRM to determine the market value for your own property.

Market Value

÷ Gross Scheduled Income

= Gross Rent Multiplier

Then,

Gross Scheduled Income

x Gross Rent Multiplier

= Market Value

GSI is the annual rental income a property would generate if 100% of all space were rented and all rents collected. If vacant units do exist at the time of your real estate analysis then include them at their reasonable market rent.

Rental Income (actual)

plus Vacant Units (at market rent)

= Gross Scheduled Income

The Gross Rent Multiplier is defined as the Market Value divided by the Gross (Annual) Rents of an apartment building.  Put another way, you can roughly value an apartment building by multiplying the Gross (Annual) Rents by the correct Gross Rent Multiplier. 

A leveraged return is the return calculated on an investment that takes advantage of a mortgage. It is calculated by subtracting the expenses incurred by the property (including the interest payment on the mortgage) from the income produced by the property and dividing that by the initial investment amount.

Calculation: Income – expenses (including interest payment) / initial investment amount

This differs from the cash on cash return because it includes the principal pay down as part of the return.

While slightly riskier, using leverage is advantageous to investors as it provides higher returns, enables them to diversify across multiple properties. For example, an investor can purchase one property for $100,000. The same investor can get four properties of $100,000 each, by putting down $25,000 on each property.

LTV measures what percentage of a property’s appraised value or selling price (whichever is less) is attributable to financing. A higher LTV benefits real estate investors with greater leverage, whereas lenders regard a higher LTV as a greater financial risk.

Loan Amount

÷ Lesser of Appraised Value or Selling Price

= Loan to Value

NOI is a property’s income after being reduced by vacancy and credit loss and all operating expenses. NOI is one of the most important calculations to any real estate investment because it represents the income stream that subsequently determines the property’s market value – that is, the price a real estate investor is willing to pay for that income stream.

Gross Operating Income

less Operating Expenses

= Net Operating Income

The Net-Worth-to-Loan-Size Ratio is defined as the Net Worth of the Developer divided by the Construction Loan Amount.

Net-Worth-to-Loan-Size Ratio = Net Worth of the Developer / Construction Loan Amount

This ratio usually must exceed 1.0.  In other words, the developer needs to be worth more than the amount of the construction loan.   After all, a bank doesn't want borrowers with a modest $800,000 net worth borrowing $5 million from the bank.  What if the loan goes bad?  What if there is a cost overrun?  What if apartment rents plummet while the proposed apartment building is under construction?  If the borrower's net worth is only $800,000, what could he possibly sell to raise enough cash to rescue a $5 million project?

 A loan where the lender and the borrower agree in advance that the lender has no right to go after the borrower for a deficiency judgment in the event of a foreclosure.

Operating expenses include those costs associated with keeping a property operational and in service. These include property taxes, insurance, utilities, and routine maintenance. They do not include payments made for mortgages, capital expenditures or income taxes.

OER expresses the ratio (as a percentage) between a real estate investment’s total operating expenses dollar amount to its gross operating income dollar amount.

Operating Expenses

÷ Gross Operating Income

= Operating Expense Ratio

A single family rental, or SFR is a free-standing residential property designed to house one family that was purchased by an investor and rented to a tenant. SFRs are defined in opposition to a multi-family property. 

A Schedule of Leases is a summary of the tenants in a commercial building that contains the (1) unit number or letter; (2) the name of the tenant; (3) the square footage of the unit; (4) the amount of the monthly rent; (5) the lease expiration date (and sometimes the starting date of the tenancy); and (6) any rent contribution paid by the tenant.

The soft costs are the construction costs that you cannot visibly see. Soft costs include the architect's fees, the engineering reports and fees, the appraisal fee, the toxic report fee, any government fees - including the plan check fee, the cost of the building permit, any assessments, and any sewer and water hook-up fees - plus the financial costs, such as construction period interest and loan fees.

A turnkey property, or TKP is a property that has been purchased, rehabbed and rented to a tenant and is now for sale to another investor. Turnkey properties usually cash flow from the moment the investor purchases it since the property is already rented.

The Total Cost of the Project is the sum of the land cost, the hard costs, the soft costs, and a contingency reserve equal to around 5% of hard and soft costs.  Usually, a commercial bank will insist on a Loan-to-Cost Ratio of 80.0% or less.  In other words, the developer must have at least 20% of the total cost of the project invested in the deal. 

The money that investors set aside to prepare for future vacancy is called a vacancy provision. It is a percentage of the monthly rent. The average vacancy provision is 6% for vacancy and 6% for maintenance.

Venture equity is like venture capital, except it is for real estate projects.  Venture equity investors provide the equity shortfalls to developers on large commercial construction deals.  Venture equity investors typically expect total returns of 16% to 20%.  A typical venture equity investor might require a 10% preferred return, plus 50% of the total profit in a construction deal.