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FRM Part II · FRM Exam Part II · Governance

A bank's credit policy sets an underwriting standard that commercial real estate loans have a maximum loan-to-value of 70% and a minimum debt service coverage ratio (DSCR) of 1.30. A proposed loan is USD 8.4 million against a property appraised at USD 12.0 million. Projected net operating income is USD 1.10 million and annual debt service is USD 0.90 million. Which statement is correct?

LTV equals 8.4 divided by 12.0, or 70%, which meets the maximum. DSCR equals 1.10 divided by 0.90, about 1.22, below the 1.30 minimum. The loan therefore breaches only the debt service coverage standard and would need to be restructured or approved as an exception.

  1. AIt meets both standards: LTV is 70% and DSCR is 1.22
  2. BIt breaches the LTV standard only, since LTV is 70% and DSCR is 1.30
  3. CIt breaches the DSCR standard only: LTV is 70% (within the maximum) but DSCR is about 1.22Correct
  4. DIt breaches both standards: LTV is 84% and DSCR is 1.22

Explanation

LTV = 8.4/12.0 = 70%, which is at the maximum and therefore acceptable. DSCR = 1.10/0.90 = 1.222, below 1.30. So only the DSCR standard is breached. Option 1 wrongly says 1.22 passes; option 4 miscalculates LTV.

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