Commercial Lending, Holding Company, Balloon Payments, DSCR, and More!

May 2, 2015 Posted by Tyler Cruz

I’ve been continuing to focus 100% on real estate lately, completely ignoring everything else.

Mainly, I’ve been studying by reading countless articles and forum threads on BiggerPockets – an online community for real estate investors. Think of it like StackThatMoney but for real estate investors.

I’ve also been rehashing my numbers over and over again and constantly improving my analysis spreadsheet and learning the numbers. Just when I think I have a good foundation on the numbers, new things constantly pop up.

I’ve also been in constant contact with my realtor and my mortgage broker, and soon will need to meet with my accountant again and possibly a lawyer. Real estate, real estate, real estate.

Here’s a breakdown of what I’ve been up to the past week:

Commercial Lending

Upon talking to my mortgage broker to keep her up to date with my recent escapades, I was reminded/informed that I would likely need to end up obtaining a commercial loan as opposed to a residential loan.

The reason for this being that I will be purchasing the income property through my corporation, which apparently must be done via a commercial loan.

So what are the differences between a commercial loan and a residential loan? Well, there are a few… basically a commercial loan is kind of the "next step up" and is usually required for anyone (whether it be a corporation or an individual) who has "maxed out" the number of mortgages they already have, or is purchasing a property that comprises of typically over 4-5 units such as a small apartment.

Commercial loans are also generally used for any large purchase, or non-residential purchase such as for retail mortgages for example.

For the loan applicant, they are basically worse than a typical residential loan in every regard:

  • The interest rate is higher (from 0.5 to 1.5% higher) which is the #1 downside by far
  • There is often a balloon payment required
  • There is usually more analysis and due diligence done by the loaners

A balloon payment is basically a requirement that the FULL amount of the loan must be paid back in a set time, typically in around 5 years. Even though the amortization might be for 30 years, a balloon payment might be required to be paid off in 5. If it can’t, then a refinancing is done with the current rates at that time.

However, my broker says that I can get around commercial lending in two ways:

  1. By purchasing through my personal self instead of through my corporation (which I will definitely not due for legal and tax reasons).
  2. By purchasing through a holding company

Holding Company

My accountant sat me down and explained to me the pros and cons (mainly pros) of setting up a holding company a year ago, and I also briefly read up on it the other day, but while the idea of it may be somewhat simple, it can get really confusing quickly.

I won’t bother explaining about it here as you can read up on it yourself if you’re interested, but basically it would cost me like $8,000-$15,000 to set up a holding company and I’d have to go through the process of lawyers and accountants again.

I’d also have added fees down the road for accounting and legal "preparation", but they would probably only be around $500 a year extra I’m guessing.

The thing is, apart from other legal and tax benefits of owning a holding company in addition to my corporation, that I’d be able to use a residential loan instead of a commercial loan, which over the long term would actually make up for the set-up cost of creating a holding company.

I probably have to talk to my accountant again about this to see what I should do.

Debt Service Coverage Ratio

One of the new numbers I learned about recently is the Debt Service Coverage Ratio, or DSCR.

This article on BiggerPockets explains what it is very well.

Basically, it is a metric used by the banks (especially in commercial lending) that is a big determining factor in deciding whether or not to grant you the loan. Typically, they want to see a ratio of 1.2 or higher, although depending on the strength of the deal, they may accept a lower rate.

A ratio of 1.0 means that the deal breaks even in terms of cashflow (basic expenses are used only). 1.2 means that it will cashflow at 20%, so they know you have money to cover repairs and other issues that come up. It’s a simple metric helped to quickly assess and compare deals that they use.

I’ve added this into my spreadsheet, and all my deals would hit the 1.2 mark (in fact, some go as high as 6.5!). However, this means that on most of them I would need to make the highest down payment I can, which removes a lot of the creativity I can do numbers-wise.

Redid CoCR Formulas; Added ROI

I decided to redo my Cash on Cash Return formulas because before I was factoring in equity into it, and by definition the CoCR should be net income for the year only, so I decided it would be better to only factor in pure net rental income and not gained equity.

I also added a simple ROI column into the After Selling Closing Costs table, which gives me an ROI factoring in everything including both buying and selling closing costs per given year.

I’m now using that (in particular, year 5) as my primary base metric on which to compare deals, with net cashflow being the other.

Here is the latest Main page of my analysis spreadsheet, this time showing one of the cheapest properties on my shortlist. Sorry, you’re going to have to squint… it’s hard to cram all that info here:


I increased my given mortgage rate from 3% to 4% in my spreadsheets to account for the commercial lending difference. As a result, it absolutely kills my cashflow and ROI. Ugh.

For example, on the property above, I’m only achieving a 6.45% ROI after 5 years…

The only thing I don’t account for in my spreadsheet is property appreciation and rent appreciation.

Now, rent appreciation may sound like I’m reaching for every extra income here, but it’s actually nothing to sneeze at. My realtor sent me this link of rental changes over time, and in a nearby city, rents increased by 9.4% in the past 5 years.

On the property scenario above, it’s currently bringing in $1,700 a month in rent. In 5 years, that could rise to $1,859.80 using the 9.4% number again (although it’s likely to be even higher due to population density only increasing here). That’s $159.80 more a month which works out to $1,917.60 more a year. And that’s on the cheapest property I’m looking at.

So, these things do add up.

Market is Still Dead

Right smack into spring and nearing summer, the market here is deader than ever. It’s still such a seller’s market.

Nothing new meeting my criteria is hitting the market, and there is maybe 1 price drop every 2 weeks.

I have a shortlist of 5 properties that I’m interested in, but the numbers are really not too desirable on any of them now due to the increase in mortgage rate I’m looking at with commercial lending.

Nearly Bought a Duplex

If you remember from my Affiliate Landlord: Hitting the Streets – Tour #4 post from a couple of weeks ago, I was fanatical about a property I called the The Dark Horse Duplex.

I was so serious about it, in fact, that I scheduled to take another look at it a week later with my realtor. We went into the first side first again, and walking through it, it wasn’t quite as high end as I had remembered it to be. It was still good overall, but it didn’t have the same "wow" factor it did the first time.

Taking a look at the roof again, it is pretty apparent that it indeed very likely that it needs to be replaced. That’s a $12,000~ expense right there.

But the biggest surprise was the 2nd side. If you remember, we couldn’t see it on our first visit because the listing realtor had given us the wrong code to enter. I knew beforehand that it wouldn’t be as nice as the first side, but sadly I was extremely disappointed with what I saw.

You could tell that all the renovations that were done were very amateur. I am not very handy myself, yet I could spot a lot of shoddy craftsmanship – namely in the floors. It’s just a shame, because there were so many renovations done, and with just a bit more care, they could have been done really nicely.

I mean, the place is decent, but I just noticed all the imperfections in the renovations.

In addition, the 2nd unit is a little bit smaller, but not by too much.

Prior to entering the building for the 2nd time, I was ready to make an offer. The 2nd viewing was more of a mere formality than anything else really. But afterwards, I walked away very disappointed.

I am still open to purchasing this place, but it must make a pretty recognizable drop. The roof needs to be replaced, and the renovations on the 2nd side weren’t done professionally.

Back to Affiliate Marketing Very Soon

I mentioned in the past that one of the main reasons I wanted to invest in real estate income properties was so that I could put some of the money I made from affiliate marketing into more passive means of earning money. After all, affiliate marketing is extremely volatile, and also requires active participation in order to keep making money.

That is all true, but there is another reason as well.

After a while, making money month after month with affiliate marketing can get a bit… boring. I mean, it takes a lot of work and all that, but what’s the point? What do I need the money for? Apart from breaking new personal bests, there is not a whole lot of incentive for me to work because I already live a comfortable life.

Would I love a new car or a bigger house? Of course! But that is more of an excuse on how I should spend my money, rather than a desire to make more of it.

With real estate, I discovered that I am actually pretty interested in it! But where I live, real estate is pretty expensive, and the corresponding rents are comparatively low. As such, I need a lot more capital in order to make any noticeable growths on the real estate side.

I think that if I can generate around $4,000 a month in net cash flow with real estate, that I would then be at the tipping point to where things start to skyrocket.

I stopped affiliate marketing partly due to all the health issues that came up, but also partly due to boredom. I now have a new reason to try to strive and get money rolling in again – every $1,000 I make is another $1,000 I can put towards my next down payment.

The End.

*Haha, first time in over 1,000 blog posts I ever ended a blog post with the end (although this one comes close:

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Posted: May 2nd, 2015 under Income Properties  

5 Responses to “Commercial Lending, Holding Company, Balloon Payments, DSCR, and More!”

  1. DJM says:

    I actually just set up a holding company and I also live in BC.

    With a holding company, you could also do a “rollover” which would involve rolling over your stake in your corporation to your holding company in a tax free transaction. The biggest benefit of this is being able to flow your dividends from your corporation to your holding company tax free – you only pay tax if you take $ out of the holding company.

    So, let’s say your operating company (Merendi) makes $10k from affiliate marketing in a month. After tax, you are left with $8,650 approximately. You can then move this money, tax-free, to your holding company to use to invest in properties, provided that you have done the rollover.

    • Tyler Cruz says:

      Yeah, sounds a bit familiar… how much did it cost you to create your holding company?

      • DJM says:

        Well, I had a dormant numbered company that was already in existence. So, let’s say it was $500 to create that company.

        My lawyer charged me $1,800 for the restructuring of this company as well as the rollover of the stake in my operating company to the holding company. This is known as a Section 85 rollover and is fairly common.

        My accountant charged me $7,000 to come up with the proper structure, communicate with the lawyer and file the proper paperwork with the CRA. So, all in, a bit over $9,000.

        The actual creation of a holding company should not cost you what you listed above. Your accountant may have assumed that you would want to roll over your personal stake in your company to your holding company. In that case, you will be looking at $10,000 or so. I would clarify this with your accountant.

  2. KJ says:

    I have followed your real estate investing endeavors with great interest as its something I have been involved in myself.

    One thing that has puzzled me is you keep mentioning that you’re waiting for prices on certain properties to drop. Why aren’t you making offers instead? The worst that can happen is you get rejected but you may get a suitable counter offer.

    In my experience, when a property has been listed for a while owners become more flexible and willing to negotiate.

    • Tyler Cruz says:

      Well, in my market, the average sales price is 97% of asking, so there is really not much room for negotiation. I don’t want to waste my or my realtor’s time.

      On the places that I say I’m waiting for drops, I’m saying that I need to get it at a much lower rate than 97%… like 90%, so I need to wait for them to drop.


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