Major Changes — Stated Income Commercial Loans

Dramatic changes during the past year have resulted in more restrictive terms and availability for commercial mortgages and commercial loans based upon stated income underwriting.

Very few traditional lenders are currently using a stated income process (no income verification, no tax returns, no IRS Form 4506) for their commercial financing and commercial real estate loans. This development is directly related to problems which occurred with residential mortgage financing using a stated income approach. In this case, the many loan defaults which occurred with stated income residential financing provide lenders with a practical rationale to reduce or eliminate stated income commercial mortgage loans.

One major lender which had been providing stated income commercial loans as well as full documentation business financing suddenly stopped making commercial mortgages of all sizes and types. While it is clear that this particular lender had many financial problems, their decision to completely exit the small business mortgage market was surprising and has resulted in significant impacts at other commercial lenders.

For example, another commercial lender has reduced property types and commercial mortgage loan size for their stated income commercial real estate loan program. This lender has been a prominent national provider of stated income commercial loans. They have made drastic changes such as the following: (1) eliminated restaurants and many other businesses from their stated income programs; (2) significantly increased credit score requirements; and (3) reduced the maximum loan amounts for their stated income business financing.

Whether using a stated income commercial mortgage approach or a commercial real estate loan based on full documentation with financial statements and tax returns, there is a prominent income issue that is often overlooked by commercial borrowers. This factor involves the documentation of business income for the required appraisal. A business will still need to document several years of income to support an acceptable appraisal value even with stated income commercial loan underwriting. For a "full doc" business loan which usually requires three years of business and personal tax returns, lenders typically emphasize the existence of sufficient business income (documented by business tax returns and business financial statements) to cover loan payments rather than personal income levels (documented by personal tax returns).

The primary commercial financing programs where we have not yet seen changes in stated income underwriting involves business cash advances based on future credit card processing transactions. For most working capital advances using credit card factoring, tax returns and financial statements are not required. Income documentation might be necessary for a larger business cash advance, but this does not represent a more restrictive lending practice as financial statements and tax returns have traditionally been required for larger transactions.

Many of the issues described above involve commercial loan strategies that are probably unfamiliar to most small business borrowers. It is particularly wise for business owners to discuss options with a commercial funding expert whenever such changes initially appear to limit commercial finance possibilities.

As we have noted in several AEX Commercial Loans reports, there are rapidly-changing developments (in addition to modifications with stated income commercial financing) which will be negatively impacting most business financing in the United States for the foreseeable future.