During a loan refinance, knowing how to prepare your operating statements for a lender is critical, as the contents will impact your loan terms. Learn which items you actually need to omit to improve your financing. When deciding on the loan terms it can offer a manufactured home borrower for a refinance loan request, a lender’s primary focus is to analyze the property’s underwritten net cash flow relative to the loan request. That number is based on historical cash-flow statements. Knowing how to prepare your operating statements for the lender is critical because of their impact on the loan terms, including but not limited to the interest rate or coupon, loan proceeds, and the amortization schedule. Collectively, these are the most effective ways an MHC owner can maximize his after-debt-service cash flow and return on equity. Before we dig too deep, you should know that underwritten net cash flow represents the bank’s conservative annual budget for your property, using its own internal criteria. While these criteria vary slightly from bank to bank, they’re consistent in principle, which is to reflect what the cash flow would look like if the bank foreclosed on the asset. While most banks have no desire to own and operate your MHC facility, they do need to know what its cash flow would likely be if they were forced to foreclose. Underwritten net cash flow represents the budget the bank creates, which generally doesn’t factor in any potential upside but does include some downside scenarios, such as real estate tax reassessment or rising electricity costs. That said, it’s important to remember several things before submitting your operating statements to a lender. 

Third-Party Management    Using a third-party management firm may be the best choice for some MHC owners, but it’s important to know the impact it can have when you’re ready to refinance. Many property-management companies create budgets that are conservative on revenue and expenses. Their realistic growth estimates are muted, while expenses are budgeted to increase by more than what’s actually assumed. This is so they continually “hit” or surpass numbers and keep their owners happy. If your management firm is consistently beating its budgets, you may not want to send its budget for the next year to your lender. Unfortunately, a lender will ignore any expected increases to revenue (unless you’re in lease-up) while using any possible increases in expenses, which is where you may be negatively impacted. This ends up hurting your loan terms since the underwritten cash flow may include these increased costs. If your management company won’t change its budget to reflect a more realistic base case, the best course is to provide your own budget. After all, it’s your property. If you decide to send the management company’s budget, closely review and compare it to the trailing 12 months income and expenses and can comfortably say you agree with the figures presented. This is time extremely well spent.

 Repairs and Maintenance   Also, be wary of using an operating statement compiled by your accountant for tax purposes. An accountant may take capitalized items (like roof replacement) and enter them as expenses rather than delay full recognition of them, thus increasing your cost basis in your carried basis. This is so you can take deductions for this year’s taxable revenue rather than long-term capital-gains deductions by increasing your tax basis for when you sell the property. While the lender wants to see all your repairs and maintenance expenses, it isn’t looking for replacements on your operating statement. It will likely ask for that information separately in a history of capital expenses; however, that schedule is to demonstrate your willingness to reinvest in your asset. This is why it’s important to understand the difference between maintenance and replacement. For example, if you experienced an issue with your HVAC system and paid someone to repair it, that’s known as repairs and maintenance (R&M). If the system was replaced, that’s a capital expenditure (also known as capex) and shouldn’t be included in your operating statements. The reason capex should be excluded is because the lender will underwrite them separately, regardless of what’s in your statements. While it’ll look at historical operating expenses to identify trends and underwrite the best estimate of expenses on a line-by-line basis, capex doesn’t occur in nice annual, even periods. Many items last five to 20 years, which means they fail or are replaced intermittently. This is why the lender will include an annual average capital expense below the line or net operating income. By leaving capital replacements in your historical R&M, you’re likely double counting your capex and eroding the debt terms your property deserves.

 Other Exclusions    Non-recurring expenses should also be omitted from your operating statements for the lender. These represent costs that aren’t expected to return, for example, a onetime legal fee or an upfront payment for information technology or a website