Real Estate Fundamentals
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| Unsecured Loan | is not backed by a lien or an encumbrance on a specific property, and if a borrow defaults, the lender's only recourse is to make a claim against the borrower's general assets
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| Secured Loan | The property being purchased is pledged as security for the debt, and a lien or other encumbrance is created on the title of the property
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| Mortgage | A pledge of property to secure a debt. Widespread by the 11th century
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| Hypothecation | The charge of interest to borrowers left in possession of their property. Became universal by the 14th century
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| Title Theory | Recognize that the mortgagee(lender) has the right to possession of the mortgaged property immediately on default by the mortgagor(borrower)
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| Lien Theory | If the mortgagor defaults, the lender must foreclose on the lien through a court action to acquire possession, then offer the property for sale and apply the funds received from the sale to extinguish debt
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| Promissory note | A written promise to pay money owed. Contains name of the borrower and lender, the amount of the debt. The interest rate and repayment terms, reference to the security instrument, and the other details of the loan agreement.
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| Prepayment Clause | The borrow in this note has the right to prepay any or all of the principal any time before it is due without penalty. Most residential can't keep you from pre-paying. Commercial can and will or make you pay a heavy penalty for paying early.
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| Acceleration Clause | Specifies a late charge for overdue payments, classifies any late payment as a default on terms of agreement and when in default allows acceleration of full amount of principal and interest owed
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| Due-On-Sale Clause | Makes all who sign this note "jointly and severely liable" for the debt
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| Assumption Clause | lets someone else assume your debt
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| Foreclosure | The process of seizing control of the collateral for a loan and using the proceeds from its sale to satisfy a defaulted debt. Lenders can't make money on foreclosure, only get back what they put in
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| Judicial Foreclosure | The mortgagee must request a court ordered sale of the property after proving that the borrower has defaulted on the terms of the agreement
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| Non-Judicial Foreclosure | (Texas is one) The security instrument (either a mortgage or deed of trust) grants the power of sale to the lender should the borrower default
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| Strict Foreclosure | The lender receives title to the property immediately on default by the borrower
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| Deficiency Judgement | The borrower is held responsible for the remaining amount of debt after the foreclosure sale
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| Deed of trust/ Trust deed | Executed at the time the load is originated to convey title to a third party. Only used during foreclosure
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| Land Contract | Establish an obligation to transfer title from a seller to a buyer at some future date based on an agreed on payment schedule. Seller financing, normally rural. You don't own it until paid off
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| Equitable Right of Redemption | Up to sell date you can pay all due and get house back from foreclosure
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| FHA | (Federal Housing Administration) Created in 1934 to, among other things, restore confidence in the mortgage market. Has dramatic impact on housing finance system. Over 50 types. 203B is the most popular and get money the others loose money
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| FHA Insured Loan | The insurance premiums collected from borrowers are used to protect the lender from losses resulting from foreclosure. Can receive up to 97%
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| PMI | (Private Mortgage Insurance) Collapsed in 1929 because of depression. Mortgage Guaranty insurance corp in 1957 make it reappear. Cost less, covers more. Can cancel when you drop below 80%
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| FNMA | (Federal National Mortgage Association) 1) Operate a secondary market for FHA insured loans 2) Provide FHA insured loans to low income borrowers in remote areas who would not otherwise have access to mortgage market. Established 1938. 1968 went private
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| VA Guaranteed Loan | Part of GI Bill of Rights. Up to $203,000 loan with no down payment. 2% funding fee (down payment of 5% reduces it to 1.25%)
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| GNMA (Ginnie Mae) | (Government National Mortgage Association) Took over when Fannie Mae went private. Provided subsidized loans through FHA programs. Guarantees payments from borrowers would occur on time
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| Mortgage-backed Securities (MBS) | Securities issued by mortgage holders to investors who wish to invest indirectly in the mortgage market
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| Freddie Mac (FHLMC) | (Federal Home Loan Mortgage Corp) Created in 1970. Operates a secondary market for conventional loans similar to Fannie Mae and Ginnie Mae for FHA and VA
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| Mortgage Bankers | Originate half of all residential mortgage loans in U.S. Borrow money from commercial banks, then use the funds to originate new loans to mortgage borrowers
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| Mortgage Brokers | Act as brokers between loan applicants and lenders. Dependent on origination fee.
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| Commercial Banks | Private financial institutions that are organized to accept deposits from individuals and businesses and to loan these funds to all types of borrowers.
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| Savings Institutions | Provide capital for housing purchases
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| Credit Unions | Important source of consumer loans and a savings institution for many Americans. Members of a specific industry or community can join a credit union and enjoy access to their deposits through checking or savings accounts.
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| Equal Credit Opportunity Act | has influenced the mortgage lending industry since 1974. Applicants must be notified within 30 days if they are approved, denied or incomplete. Can not discriminate
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| Consumer Credit Protection Act | Referred to as Regulation Z or Truth-in-Lending. Lenders are required to disclose the full details of the loan to the applicant within three business days of application including exactly how much the loan will cost
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| Real Estate Settlement Procedure Act (RESPA) | Requires lenders provide borrowers with a copy of a special information booklet prepared by (HUD). Requires lenders provide borrowers with a "good-faith estimate" of the settlement costs associated within 3 days.
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| Flood Disaster Protection Act | Requires lenders disclose to borrowers whether the property they are purchasing lies within a flood hazard area and must require that the borrower obtain flood insurance if it is available
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| Fair Credit Reporting Act | Requires lenders obtain permission before investigating an applicant's credit history and handle the applicant's credit information with due care
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| Underwriting | The process of evaluating the risk of an applicant and a property in order to make a decision regarding a loan application
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| Loan to Value Ratio (LTV) | Determined by dividing the requested loan amount by the lesser of the sale price or the appraised value of the property
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| Mortgage Debt Ration (Front-end ratio) (MDR) | Defined as the percentage of a borrower's gross monthly income that is required to meet monthly housing expenses.
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| Monthly Expenses | Refers to principal and interest payments, hazard insurance, property taxes, mortgage insurance, homeowners association fees and any payments on existing or proposed second mortgages on the property
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| Total debt ratio ((TDR) (Back-end Ratio) | Defined as the percentage of a borrower's gross monthly income that is required to meet monthly contractual expenses.
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| Contractual Expenses | Include monthly housing expenses, any revolving credit payments, payments on any installment loans with more than 10 remaining payments and any alimony or child support
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| REITs- Real Estate Investment Trusts | sell shares of stock to investors through public and private markets, use the proceeds to invest in commercial properties as equity or debt investors. Not subject to firm-level taxation. must distribute 95% of taxable income to shareholders
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| Commercial Banks | Community banks (less than $500 million assets), Regional banks (more than $500 million), Money center banks (10 largest banks in US)
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| CMBS | (commercial mortgage-backed securities) Bundeling of loans and then selling shares of the loans to investors
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| Debt coverage Ratio | Divide the NOI by DS (expected Net operating income/ debt service) Require 15- 20% higher than payments required to service debt
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| Banker vs Broker | Originates and services vs puts both sides together
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| Business Risk | Uncertainty arising from changing economic conditions
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| Financial Risk | Uncertainty from possibility of defaulting on borrowed funds
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| Purchasing Power Risk | Inflation
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| Liquidity Risk | Not being able to convert investment to cash
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| Opportunity Cost | Dollar today can be invested where dollars received in the future lose potential interest
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| Sinking Fund Factor | Amount of deposit necessary to accumulate a given future value based on an assumed compounding and interest rate over a period of time
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| Mortgage Constant | Used in valuation and mortgage finance, where the MC is the inverse of the PVa. The MC is the factor that will give the periodic payment necessary to amortize (pay back principal as well as provide a return on the investment by the lender) the loan
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| PITI payment | lender often requires payment to cover not only principal and interest, but tax and insurance escrow as well. = (taxes+insurance)/12 Add to monthly payment
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| Interest-Only loans | Require that the borrower pay interest each period during the loan term, then repay the full loan amount in one lump sum at the end of the loan term
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| Amortizing loans | Require equal periodic payments composed of both interest and principal. As payments are made the balance of the loan is gradually reduced to zero by end of term.
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| Refinancing | Retiring the existing loan with the proceeds of a new loan for the same property. The borrower may obtain a new loan from the same or a different lender.
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| Effective Interest Rate | the actual cost of borrowing funds from a lender, expressed as an annual rate, after consideration of discount points and origination fees
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| Two-Step Mortgage | The payment amount is reestablished once during the life of the loan, usually at the end of year five or year seven. Protected by an interest rate cap.
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| Adjustable-rate Mortgage | Payments change frequently, usually at the end of each year
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| After-tax equity reversion (ATER) | the return of funds originally invested in the property, plus any change in the value of the investor's investment in the property
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| Advantages of investing in real estate | Cash flow from operations, appreciation, tax benefits, use of leverage.
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| Disadvantages of real estate investment | Large amounts of capital required, risky, lack of liquidity, changing economic conditions.
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| Two foci of underwriting | Property and borrower
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| NPV equation | -investment + CF/(1+i)^1 + CF/(1+i)^2...
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| GRM | Gross rent multiplier= Purchase price/ gross rent. The lower the better
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| Capitalization rate (return on asset) | NOI/ Price or value. The higher the rate the more debt the property can support
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| LTV Ratio | Loan to Value= Mortgage/ lesser of Price or Appraisal. Default risk rises proportionally with LTV ratio
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| DCR | Debt coverage ratio= NOI/DS. Must exceed 1.0 in order for the property to make the mortgage payment. (Normally require 1.1 to 1.3)
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| BER | Breakeven ratio= OE + DS/GPI. Percentage of occupancy that a building must achieve in order to be able to pay all of it's cash expenses and carry the assumed financing. 65%- 95%. Lenders usually require BER< (100%- MktVac)
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| OER | Operating Expense Ratio= OE/EGI. Compared to other properties. Higher better
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| Cash on Cash (Equity Dividend Ratio) EDR | BTCF- Capital improvements/ Equity. Higher the better
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| ATRE | After-Tax return on equity= Higher the better
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