When applying for hotel financing, lenders may look at debt yield, a percentage of net operating income divided by the possible loan amount. This ratio shows lenders how much money they could make from a hotel if they had to foreclose on it immediately. It can help lenders breathe easier about the financial future of the property. When choosing a hotel financing company, remember these tips to find the best deal. If you’re not sure how to choose a lender, read on!
Lenders use three primary calculations when sizing hotel loans: net profit, debt, and one-time capital expenses. Net profit is derived by subtracting expenses from revenue, such as management fees and FF&E reserves. Typical hotel revenue is 36 months’ past revenues, and the amount of furniture, fixtures, and equipment (FF&E) in the hotel is three percent. The remainder is the loan amount, less the loan amount and any necessary reserves.
The highest debt yields come from high-end hotels. High-end hotels have debt yields of around 9 percent, while select-service hotels typically have yields of about 12 percent. Debt yield for hotel financing is calculated as the NOI divided by the loan amount. Higher debt yields mean lower risk to the lender. However, higher LTV limits can lower debt yields. Debt yields are essential for hotel financing because they influence the amount of leverage a hotel can get.
There are specific qualifying criteria for hotel financing:
- These loans must be used to purchase the building and the hotel’s land.
- They must be used for staffing, insurance, licensing, and marketing. The hotel owner must also submit a business plan outlining the hotel’s operations.
- The loan amount must be based on the project and should be clearly defined.
- The applicant must follow all directions outlined in the loan application.
The lender will also review the hotel agreements. The lender will often require that the hotel operator deposit a certain percentage of its gross revenue into a reserve account. This deposit is considered excess cash to pay operating expenses and fund the hotel’s reserve accounts. Sometimes, the lender may allow the operator to substitute a letter of credit for the reserve account. However, most lenders will require the hotel operator to hold the remaining capital in a version for at least one year before the loan is released.
The loan-to-value ratio (LTV) for hotel financing refers to the value of the hotel divided by the NOI. Lenders determine the LTV by comparing the sales prices of comparable hotels in the same market. The lender then applies a cap rate to the loan amount. A higher cap rate indicates a more valuable hotel. On the other hand, a lower cap rate means a lower value and may require additional personal capital to cover the difference.
The loan-to-value ratio for hotel financing is typically eighty to ninety percent of the property’s purchase price. However, many lenders accept higher ratios, particularly those exceeding 80%. Generally, hotel lenders prefer a debt service coverage ratio of 1.25. However, lenders will look for a comprehensive explanation for a lower LTV ratio and may even approve cross-collateralization.
Working capital accounts
Typically, hotel managers and lenders have separate working capital accounts. These accounts provide a cash reserve for upgrades and maintenance projects. However, this initial capital does not correspond to the actual working capital of a hotel after it opens. This is because, after opening, the hotel either makes or loses money, and its initial capital account does not reflect this. Consider asking your lender for a specific budget to find the correct working capital. In addition, you should be aware of your hotel’s seasonality.
Operating cycles in restaurants and hotels tend to be longer than those in other types of businesses. For example, in a recent example, a restaurant owner purchased 100 bottles of a famous wine, but sales of the wine fell after three months. As a result, he waited for over six months to sell the wine, which strained the working capital of the restaurant. A working capital loan can allow a restaurant to meet expenses during its short operating cycle, even if the budget does not reflect that reality.
While getting government grants for hotel financing is not a simple process, it is worth investigating as part of your financing strategy. Today, governments are looking for ways to stimulate local economies, and hotel projects are among the most in demand. In the U.K., for example, you can apply for 25,000 pounds of free government funding per small business. To qualify for this funding, you must develop an excellent business plan that outlines your project’s goals and how it will help the community and local economy.
The SBA offers various loan programs, including 504 loans and 7a loans. However, banks are wary of lending to the hotel industry in the current economic climate, and most lenders have implemented an indefinite lending freeze. Therefore, the SBA will be a significant player in rescuing the hotel industry. The SBA will provide the funding, mainly through these programs, to help small businesses get off the ground. In addition, it will also offer a variety of grant programs to help small hotel owners obtain capital.
The first step in applying for a hotel loan is to create a business plan. Gather all the documents needed and write a business plan that includes your vision for the property. Next, submit your lender’s request for hotel financing, stating the amount and purpose of the loan. Finally, make sure that you follow all the directions to ensure that your application is processed correctly. Once you’ve submitted your application, your lender will evaluate the documents and decide.
When comparing lenders, be sure to take fees into account. Lenders typically compare loans based on their annual percentage rate (APR), which includes the interest rate, origination fees, and any other fees associated with the loan. Make sure to compare the APR for hotel loans with prices before you choose a lender. Many websites allow you to compare different hotel loan products and lenders. You can also find helpful articles on how to prepare for a lender’s request.