Does your client have enough money?

Willie Sutton, one of the most famous bank robbers of the Twentieth Century, was once asked why he robbed banks. Sutton, according to the FBI, replied curtly, "Because that's where the money is."

But knowing where the money is, is, in itself, not a crime. In fact, virtually every financing transaction in the real estate world requires a monetary or equitable contribution from the client, and it is the broker or lender's responsibility to make sure that the client has enough money, and cash flow, to make the deal work.

And while it's easy to ask every client for tax returns and financial statements early on, doing so will only bog down the underwriting process and discourage potential buyers and borrowers from doing business with you.

Therefore, it is important to ask qualifying questions before generating excessive paperwork.

There are three facets to the "money" inquiry: a) transactional funds; b) demonstrable cash flow; and, c) net worth.

Transactional Funds The first "money question" you must ask yourself--and your client--is, "Does the client have enough up-front money to complete this transaction?"

That is, does he or she have all any necessary appraisals fees, good faith deposits, down payments, commitment fees, closing cost, etc., to see this deal through?

This might seem simplistic, but it is not: many mortgage and real estate brokers who come to us are so excited about having found "a deal" that they fail to uncover the simple fact that the clients can't afford the transaction!

Demonstrable Cash Flow

The second "money question" you must ask when processing, arranging or applying for a mortgage is whether the client has enough demonstrable positive cash flow to make timely mortgage payments. Demonstrable cash flow is cash flow that the client is willing and able to prove. Demonstrable Cash flow can be proven by reference to any of the following (more or less in decreasing order of priority):

1. Income and expense statement for the property in question.

2. Income and expense statements for other properties owned by the client.

3. Personal or business tax returns.

4. Monthly Bank deposits (or restaurant credit card slips) reflecting business income.

5. Business profit and loss statements (including year-to-date profit and loss statements).

6. Pro forma cash flow in the form of business plans, projected rent rolls, annuities, escrowed mortgage payments, etc.--if the lender allows this.

In contrast, non-demonstrable cash flow would be:

7. Undocumented cash earnings. Most lenders rely only on demonstrable cash flow. If sufficient demonstrable cash flow is absent or deficient from each of the above-numbered categories but the last one, the loan will not be made or the loan will have to "go stated" with respected to the client's income, assets, or both. Furthermore, absence of cash flow from category number seven could mean that that you have to look to the client's liquid net worth for mortgage payments. If there is no cash flow to be found after a complete investigation, then your client is probably not a good candidate for a loan--and an equity investment, syndication, or sale could be a more suitable strategy.

Net Worth

The third "money question" you must ask is whether the client has sufficient net worth, particularly liquid net worth, to compensate for any increased riskiness or any cash flow deficiency.

As you've probably noticed by now, net worth and cash flow are related.

A conventional bank will always demand that the client point to one or the other as the source for debt service coverage.

For example, if a client is looking to borrow money for a two year rehabilitation project on a fifty percent vacant apartment building, then typically the client will have to show that the building's debt service, alone or in conjunction with the borrower's personal resources, would be enough to carry the loan. Therefore, you should ask more net worth questions when the client is weak on cash flow, and visa versa.

Conclusion Clearly, there is a lot more to "qualifying" clients than what we've discussed so far.

Nonetheless a solid understanding of the basics is essential and, in the long run, very rewarding.

MARK YOFFE,

EXECUTIVE VICE PRESIDENT,

ALPINE COMMERCIAL CAPITAL LTD.