This blog introduces the main criteria to consider when borrowing against a farm and helps you understand want lenders are looking for and how to put stronger loan applications together. This should help ensure that proposals stand out and have a better chance of being approved.
There are 2 key elements:
The more simple part is the valuation of the security property (or the property that the lender will take a charge on). Lenders refer to a LTV (Loan to Value) ratio and normally set limits which is it important not to exceed. For example, some lenders such as AMC (Agricultural Mortgage Corporation) have a limit of 60% LTV and prefer lending under 50%. This means that if they have security worth £100,000 they will lend up to £60,000. The LTV range between lenders is from 50% to 80%. Normally the lower the LTV the better the chance of success. How much security is offered is therefore an important consideration. It is also simpler if the security is free from other loans, however it is possible to take a second charge so two lenders have a loan secured against the same property with one having a first charge and the other having a second charge. Interest rates for farm mortgages are generally much lower than for other industries and this is generally because there is valuable security and a very safe loan to value ratio.
The second factor is serviceability or ability of the business to repay the loan. Assessing this involves a detailed analysis of:
The Proposal – Primarily a good financial proposal that stacks up financially, making profit and loan repayments, is needed. You need to show it works at both a practical and financial level.
Historic Accounts – Ideally 3 years accounts will be compared and analysed to see what surplus cash is generated to make repayments.
Budgets and Cash-flows – Where a new proposal plans to increase profit, detail cost and income figures in the form of gross margins, budgets and cash-flows to show the proposal is well thought through should be provided.
Background story – The lender needs confidence in the you as well as the proposal. You history and track record are useful ways to give this confidence. This should be included in the business plan and include qualifications, experience and any market research or estimates that have been obtained.
Serviceability is normally the limiting factor when we talk to people about farm mortgages. For example, a farm worth £2m could theoretically borrow £1m based on a 50% LTV. However when the lender looks at serviceability they looks at whether the borrower can afford to repay the loan. This is normally based around a higher rate of 5% or 7% as opposed to the likely lending rate (known as a stress test). A £1m loan on a 5% repayment basis over 25 years would cost about £70,000 per annum which may not be affordable.
It is always advisable to informally assess both security and serviceability before approaching a lender about a farm loan. They will normally ask probing and possibly difficult questions and by preparing well considerable time is saved during the application process. For more information on the application process please see out AMC page.