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1.4 BANK FINANCING

Real estate bank financing may be classified under three principal headings depending on the borrower and the purpose of the loan.

1. Property loans granted to private (retail clients) intended:

(a) for the purchase of a residential property;

(b) to refinance the purchase of a residential property with a new loan;

(c) to provide liquidity in order to cover an expense or home refurbishment.

2. Property financing granted to companies intended to cover the company's financial requirements (e.g. new investments or capital expenditures on existing properties).

3. Structured property financing granted to companies or real estate funds (including SPVs), intended:

(a) to finance the acquisition of an income producing property or a trading portfolio of properties;[1]

(b) to finance the construction/reconstruction costs of properties to be leased or sold.

There is a substantial difference between the first two classes of financing and the third one. Within retail or corporate real estate financing, the bank's due diligence is focused on the capacity of the borrower (either a private individual or a company) to generate sufficient income to repay the loan. The property is only a guarantee which the bank may enforce in order to extinguish the loan, should the borrower become insolvent. On the other hand within structured real estate financing, the bank's due diligence is focused on the property and its immediate or projected capacity to repay the loan through the income generated from lease or sale.

1.4.1 Property Loans to Private Individuals

The main guarantee which is requested by the banks for the first type of loan is the creation of a first ranking mortgage on the property – either owned or pending purchase – by the private individual applying for the loan.

For these loans the bank will verify the ability of the borrower to repay the loan out of his or her income, either from their job or other sources. If there is no or inadequate income,[2] the loan may be granted only once a guarantee has been issued by a third party in receipt of sufficient income. As a general rule, monthly loan repayments should not exceed one third of the net monthly income of the borrower (and/or guarantor).

Because of the ease with which the technical, legal, and economic due diligence phase of the operation can be standardized, loans for residential properties are offered by all commercial banks and now also more and more via the internet.

  • [1] Property portfolios bought at discount ("wholesale") with the purpose of the sale of individual properties (“retail") over time.
  • [2] As a general rule, periodic loan repayments should not exceed a percentage of the net income of the borrower (and/or guarantor): for example, in the Italian market, monthly loan repayments should not exceed one third of the net monthly income, while UK banks use a multiplier (currently between 4 and 5) of gross annual income which the loan cannot exceed.
 
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