Mortgage-backed security loans are a relatively new practice, only gaining popularity at the end of the 1990’s. Even more recently, these types of mortgages have begun spreading into the commercial world instead of solely the residential field. Commercial mortgage-backed security loans, or CMBS loans, allow the bank to free up their capital and investors to pay into mortgages.
CMBS transactions begin in the same way that normal mortgages begin. A person or company will take out a mortgage in order to pay for a commercial property. Just like a standard loan, the borrower pays back the principal and interest over the following years.
The bank, however, would have to tie up their capital and resources in the loan for the entire duration. If they enter into CMBS loans instead, the banks will essentially sell the mortgage to investors. First, the loan is bundled with hundreds or thousands of similar commercial mortgages. Then, the bundle of loans is sold to an investment bank in the form of a bond. The investment bank will divide the bonds into sections and sell them to investors. In this way, the money a commercial enterprise pays on their loan will go to the investors, while the bank makes money simply by creating and servicing the loans.
The advantage to CMBS loans is that they usually have lower fixed interest rates in exchange for less flexibility. It is more difficult to exit out of or alter this kind of loan. Additionally, the terms are longer, usually about five to ten years, which equates to a less expensive loan. The risks of floating rate financing is essentially gone as well as their negative effects on cash flow.
There are a few other advantages to this kind of mortgage. For example, these loans are usually non- recourse to the borrowing entity. This allows the company, especially companies with fewer assets, to minimize their personal exposure. A CMBS loan is also assumable. This can add to the property’s value if it is ever put back on the market.
Mortgage-backed security loans are just another option with certain advantages and disadvantages for owning property. As always, it is imperative that anyone seeking to borrow money to make a commercial purchase researches their choices carefully. In addition to creating opportunities for investors and freeing up capital, CMBS loans may be the right choice for business owners due to their lower interest rates, lower principal payments, as well as non recourse and assumable advantages. It is a fairly new practice that is gaining a lot of popularity in the recent economic world.