A Village Visit

Today I go to see the house again, with my friend, Mary Ellen, my real estate agent, Nikki, the seller's real estate agent, Francine, and an old friend and contractor, Craig -- who knew that it takes a village to buy a house?  Craig is there to protect my finances - to make sure the necessary repairs won't break my bank account -- and Mary Ellen is there to protect my future -- to make sure I haven't entirely lost my mind such that I'll be stuck with a house I hate and can't afford and am faced with a life I definitely didn't want.  Only your closest friends can tell you that, and truly only a subset of those -- I know Mary Ellen is up to the task.

I've done a little more research on the issue of a commercial loan.  Yes, it turns out, I can get one. Apparently you don't actually have to run a commercial enterprise, they'll lend money to pretty much any fool who wants to take on the challenge AND - and this is a big AND -- can prove that the commercial enterprise is commercially viable, i.e. it can actually make money.  Which, it turns out, in this case is not so easy to prove.  

When they do the loan analysis, they look less at your income - kind of nice that that isn't the biggest issue for once --  but more at the total revenue you can bring in from the property.  So the apartment that I'm dreaming of living in, to them is just another place that can generate rent, even if that's not my plan, along with the two one bedroom apartments and the big chunk of commercial space.  Once they have that revenue number -- in this case it comes to around $50-$60K per year -- they subtract out all of the expenses, and not surprisingly, those, from the bank's point of view, are a lot larger than what the seller's agent printed on her glossy brochure.  The bank needs to think beyond just taxes, insurance and heating costs to the expense of having a unit vacant and keeping the building maintained and all the other little expenses that I can't even imagine but they're paid to remember.  In the end, those expenses come out to more than $20K per year, making the building's net income in the $30-$40K per year range.  

Sounds pretty good to me, I thought -- should be enough to cover the principal and interest on any loan I need to take, especially if I can get the house for less than $695K.  But -- you knew it -- there's another problem -- well, actually, two more.  First, the terms of a commercial loan are far less attractive than those for a residential mortgage -- more than 6% interest rate, twenty years at the longest, has to be adjustable, etc.  My monthly payment, no matter how much the house costs, would be a chunk bigger than I first imagined.  I won't be living for free any time soon.  

Second, and quite a bit more important, the bank will only make a loan based on how they value the property, not the value that the lovely elderly artist sellers see in it.  It's a cold hard calculation for them, based on a capitalization rate (or cap rate), which the bankers I'm talking to are setting at 10% -- here's the formula:

I did go to business school but I'm not going to try any fancy explanations -- suffice it to say that the bank wants to make sure they're loaning money on a property that is at least making back 10% of its value every year.  

It doesn't take a math genius to figure out that, by this calculation, from a banker's unemotional, mathematical, dollars and sense perspective my dream house is worth at most $400K, more than 40% less than what the seller's are asking, which is already a price that's come down 30%.   One banker said perhaps he could go to $450K, thanks to its beautiful location, which could push the income up a bit.

Ouch, $450K.  Hard to imagine making that kind of offer to this lovely couple -- I know, I haven't actually met them but in my dream scenario they're eccentric and lovely;  it's likely that this is their planned retirement money.  I don't want to turn them into the old lady with the cats and canned food that I first imagined in the house.

However, I realize there's a silver lining in all of this news:  this is not a personal problem, just for me, owing to the skimpy size of my bank account or lousy credit rating or anything else less tangible.  Perhaps someone will arrive on the artists' doorstep with several hundred thousand dollars in cash and buy the house without a loan (although personally I suspect anyone in that cash-rich situation would be taking their money elsewhere, not to a house that is more project than living space);  but anyone else who wants to make an offer will eventually end up in front of a commercial banker who will be offering the same bad news.  

I understand -- it still makes my dream all the more complicated and daunting and seemingly impossible.  But I'm looking at it as good news -- why not? -- for the time being at least.  

Off to meet my village...