Questions Aircraft Loan Underwriters Ask – Part 3
September 8, 2009 — AirFleet
As part of securing an aircraft loan, an underwriter will need to review the following: 1.) Credit Application, 2.) Credit Report, 3.) Cash Flows, 4.) Net Worth, and 5.) the Aircraft information itself.
As a part of an educational series, we are addressing each of these components separately and reviewing some of the questions the lender tries to answer through analysis of a client’s credit package. This should provide some insight into what a loan officer is trying to accomplish by requesting certain information.
In this article, we’ll discuss the evaluation an underwriter makes to determine if an applicant can afford the new monthly payment of an aircraft loan – the applicant’s Cash Flows, often the most important element in underwriting a traditional Aircraft Loan:
- How much debt does the client currently have (monthly payments)? Step one is to analyze a client’s current obligations, which will subsequently be included with the aircraft loan and compared against the client’s income. Included in the debt calculation along with the new aircraft loan will be payments for mortgage, revolving debt (credit card), installment debt (auto loans, etc), outstanding notes and any other monthly obligations listed on the credit report or personal financial statement.
- How much does the client make (income)? This may sound easy, and sometimes it is when evaluating a client who has an annual salary as their sole source of income. However, in many cases, a borrower will have a more complicated income picture, and may pass-through non-cash losses. In addition, income may come from salaries, rental properties, royalties, capital gains, businesses clients own, corporate distributions, farming, or other sources. Lenders will typically need to measure against a historical standard – often the past 2-3 years of the client’s income as demonstrated through tax returns or audited financials. Depending on the complexity of the financials, the underwriter will add back income where they can in order to get an accurate picture of true income from the tax returns/financials (as oftentimes, customers will expense or depreciate items for tax purposes that do not reflect a true representation of cash-flow).
- What is the personal debt-to-income ratio? Once the true income and monthly debts have been calculated, underwriters will formulate a debt-to-income (DTI) ratio. This will compare a client’s historical monthly income versus the total of monthly payments. Since no tax, aircraft expenses, or other living expenses have been taken out, the underwriters like to see the DTI at 40 – 45% after the aircraft payment to leave extra money for these other expenses. This means that monthly payments cannot add up to more than 40-45% of total monthly income. (For example, if you make $1,000 a month and the monthly payments on the items listed in question #1 add up to $400 per month, then you have a 40% debt-to-income ratio).
- What does the business cash-flow picture look like? Many aircraft buyers are also business owners, so in addition to the personal debt-to-income ratio, the underwriter will also evaluate the business cash flows, also known as Debt-Service Coverage Ratio (DSC). The DSC ratio is one common manner of evaluating this corporate cash-flow picture, and presents a picture of the cash available to meet the annual debt payments of the company when including the aircraft loan (if appropriate). A DSC of less than 1 typically means the company is leveraged, and may not be able to meet all of its payment obligations. Our underwriters generally look for this ratio to be 1.25% or higher to demonstrate the company is able to meet its current obligations with a small excess for other expenses, savings, etc.
- Are the cash flows growing/ shrinking? Two to three years of personal and business tax returns will be requested from a client in order to take a historical look at cash flows. Coupled with year-to-date information (interim financials since the tax returns were filed), this allows the underwriter to sense any trends in income. Is the trend positive, negative, or stable? In addition to income trends, underwriters look at trends in debt. Has the customer recently opened a large number of new accounts or significantly increased their financial obligations?