The Two Worst Things That Could Happen With A Business Loan

It is important to have an understanding of what canlonger processing period for the loan).
go wrong with a business loan. The focus of thisEven though cost and schedule are critical issues, an
article is on two situations that will have the mosteven bigger issue is the appraisal value that is provided
severe financial consequences. A loan disapproval atby the appraisal. For example, I have seen instances in
an early point in the application process is not includedwhich a commercial borrower thought their property
here because it is not likely to have the immediatewas worth $500,000 but the commercial appraiser
financial consequences of the examples providedselected by the lender produced an appraisal with a
below. Business owners should be prepared invalue of $285,000. While this is not a routine outcome,
advance for these problematic circumstances so thatit is certainly not unusual to receive an appraisal that
they can develop contingency plans.produces a value that is less than the commercial
RECALL OF A COMMERCIAL LOANborrower expects. A similar (but avoidable) problem
Recall provisions allow the lender to call the loanoccurs when a commercial appraisal is not accepted
(forcing the borrower to repay early) prior to theby the lender because the appraiser did not provide an
expiration of the loan. This issue is not of concern toappraisal meeting basic guidelines. For example, a key
commercial borrowers whose business loan does notelement of a commercial appraisal is the valuation
contain provisions permitting the lender to recall thebased on analysis of income. If an appraiser chooses
loan. However many traditional commercial lendersto submit an appraisal based only on comparable sales
routinely place recall clauses in their loan agreements.data even though the lender stipulated in the
The conditions which can trigger a recall will vary butengagement letter that an income appraisal is required,
will commonly include periodic review of financials andthen the lender will not accept the appraisal (and is
credit history by the lender. Under these circumstanceslikely to refuse even a modified report from the
if agreed levels of income and credit standards areappraiser when they violate such a basic appraisal
not met, then the bank will typically notify therequirement).
commercial borrower that they must pay off the loanIt is important to have an understanding of how the
within a 30-90 day period.appraiser will be asked to determine value as well as
When confronted with a recall notification, commercialto realize that there might be significant assets which
borrowers will have little recourse other than to seekwill not even be included in the value. Items such as
refinancing from another lender. In seeking alternativeequipment and furniture are frequently excluded,
sources of commercial financing, prudent borrowersespecially in commercial real estate loans. For
will eliminate potential lenders who will impose similarbusinesses such as funeral homes and assisted living
recall provisions in new financing. To avoid the recallfacilities, it is very common for the overall business
situation in the first place, commercial borrowers wouldvalue to be much higher than the real estate value. But
be wise to consider only commercial loans which willan appraisal based on the real estate value will
not have recall terms. For commercial borrowers whonevertheless exclude the excess business value from
currently have recall provisions in their commercialthe commercial real estate value.
financing agreement but have not yet received a recallWhat contingency plans are advisable for the appraisal
of their loan, it will be equally wise to considerprocess? First, be prepared for the appraisal to be
refinancing their business loan before such a recallmore expensive than initially expected and ensure that
occurs so that refinancing is accomplished accordingfunds are available to cover this possibility. Second, be
to the commercial borrower's timetable and not that ofprepared for the appraisal to take longer than
the current commercial lender.expected. If buying a business property, the buyer
COMMERCIAL PROPERTY APPRAISAL COSTSshould discuss this possibility in advance with the seller.
AND RESULTSIf refinancing, the owner should not make plans for
The commercial appraisal process is lengthy,spending funds until the appraisal has been finalized
expensive and relatively uncontrollable in terms ofand the lender indicates their readiness to close the
results. In many cases one of the unknowns is howloan. Third, consider in advance what action to take if
much the appraisal will cost. Unfortunately commercialthe appraisal produces a lower value than expected.
mortgage appraisal costs can be unpredictable and willFourth, decide if an additional appraisal is warranted
approach what many borrowers view to be(this possibility needs to be considered especially for
excessive for specialized commercial properties suchthe situation in which the appraisal is not accepted by
as assisted living facilities. Appraisals for a statedthe lender).
income loan will usually be more costly because theThe purpose of this article was to focus on business
lender is primarily depending on credit scores and aloan problems with immediate financial consequences.
sound appraisal to support the loan. These appraisalThere are a multitude of other serious commercial loan
situations will cost more for commercial properties inproblems which borrowers should have a similar
rural areas because qualified appraisers may not beawareness of in order to avoid unnecessary
available locally. The timetable for completing ancomplications. Commercial borrowers should visit and
appraisal is another potential source of problems, andfor an overview of strategies for avoiding commercial
until the appraiser is selected and commits to afinancing problems.
schedule, the completion date is not likely to be knownCopyright 2005-2006 AEX Commercial Financing
with any degree of accuracy (and this can result in aGroup, LLC. All Rights Reserved.