Are you looking at buying your own vehicle recycling premises but need further advice on the financial implications? In part two of this financial series, Martin Cook, Director at Exel Finance, tells us more about lenders’ criteria, including how much can be borrowed and the costs involved.
The last article discussed the question of buying your own premises and the particular challenges of finding lenders that are comfortable with the vehicle recycling industry. It covered lenders’ basic commercial lending criteria. This article will look at lenders’ criteria as it relates to affordability and how that is assessed after which the questions – ‘how much can I borrow?’ and ‘how much will it cost me?’ will be considered.
Commercial lenders work out how much you can borrow by assessing the company’s profits. However, that is not just the net profit figure that appears on the bottom line of your profit and loss accounts. It is an adjusted profit figure by assessing the company’s earnings before interest, tax, depreciation and amortisation (EBITDA). So the net profit figure that appears in your accounts can have these items added back in to produce an adjusted profit figure to assess how much you can afford to borrow.
In addition to these adjustments – what about the rent you might currently be paying your landlord? If you are buying your own premises, you are no longer paying rent, and so that figure is also available and can be added back into your adjusted profits. This adjusted earnings figure is then used to assess how much you can borrow.
Different lenders have different approaches to calculating what you can afford to borrow. All lenders are inherently risk-averse and are required to take a cautious approach in order to be responsible lenders. So in order to ensure your business can afford the payments, they will assume a notional interest rate as opposed to the actual interest rate currently available. That notional interest rate will be much higher than current rates. They will then work out what your repayments could be and then add a percentage to be sure you will be able to cover much higher future payments. That additional percentage could be as high as 175%.
For example, for a commercial loan of £350,000, an interest rate of 6% might be assumed, and repayments over a 20 year period. This would result in monthly payments of £2,507.51 or £30,090.12 per year. They may then increase that figure by 175% to arrive at a figure of £52,658. If your adjusted annual profit figure is at least £52,658, then you could potentially borrow £350,000.
The amount commercial mortgage providers will lend is also constrained by a loan to value ratio. The most you can hope for is 75% depending on the merits of the case. But most lenders will lend up to 70% of the value of the property. It is also important to bear in mind that a lender will lend 70% of the purchase price or the valuation, whichever is the lower.
Now using this same example, let’s look at the sale price of a property being purchased. If the agreed purchase price was £500,000 and we found a lender willing to lend 70% – then £350,000 is the most you could borrow, leaving you to find a deposit of £150,000 plus all the fees.
If you are purchasing a property for £350,000, and even though you could qualify for a £350,000 loan, no lender will do a 100% loan, so the loan would be constrained by the maximum loan to value (LTV) available. At 70%, you could borrow £245,000, leaving you to raise £105,000 plus fees.
The examples above assume your credit rating is acceptable and that your business is viable. If you or your business have a poor credit rating, it may still be possible to obtain a mortgage, but it will be at a higher interest rate and probably only at a lower loan to value.
How much will a commercial mortgage cost me?
High street banks offer the most competitive interest rates but have stricter criteria. A £350,000 commercial mortgage with a high street bank lender may attract an interest rate of 3.5% over Bank of England base rate (currently 0.75%), so a rate payable of 4.25%. If we assume capital and interest repayments over 20 years, then the initial payments will be £2,167.32 per month. I say “initial payments” because the Bank of England base rate will likely go up to 1.25% by the end of the year and even higher the following year. It is possible, therefore, to obtain a fixed rate.
To keep the initial servicing costs down, you could obtain an interest-only mortgage. Most high street lenders will not allow interest-only payments. So you could expect to pay a much higher interest rate of around 5.75% from other lenders. Using the same loan amount of £350,000 and an initial interest rate of 5.75% then, the monthly interest-only payments would be £1,677.08.
There are many factors and variables that affect loan amounts and interest rates; therefore, it is in your interest to speak to a qualified commercial mortgage broker in order to address your specific requirements based on your circumstances.
Keep an eye out for part three of the series, which will concern how to set up the purchase of your commercial property.
If you would like further advice on this topic, please contact Martin at mc@exelfinance.co.uk or call him on 0161 327 1837.
