The term “underwriting” in essence is the process when one person agrees to lend money to another person or an institution for a fee. Forms of underwriting include loans, insurance, or investments. Underwriting is a form of risk. The term “underwriter” comes from the traditional method of the agreement: each risk-taker would write their name under the total amount of risk they were willing to take on with a specified premium.
The key factor in all underwriting situations is risk. Underwriters research the level of risk they are taking on from each person or institution involved in the deal. This is called finding the “investment risk.” The risk refers to how likely it is for the borrower to repay the loan (given the cost of the investment, the timeline, and the fees and earnings associated with the investment). If, after the assessment, the risk seems to be high, an underwriter may refuse to participate—effectively removing themselves as investors in the project.
In commercial real estate investing, if you’re an individual looking for funding for a real estate purchase, an underwriter will evaluate your request for a loan to determine how much risk the lender would sign on. Part of this evaluation process is a property appraisal. So, if you’re seeking a loan for a property, an underwriter will appraise the property to determine if selling the property would be enough to cover the amount lent; that is, if you defaulted on the loan, if the lender could sell their portion of the property to recoup the amount they lost. Underwriters in commercial real estate investing will also check on other parts of the property, including damages, and the potential for natural disasters such as floods or earthquakes.
Securities Underwriters vs. Real Estate Underwriters
Real estate underwriters are unique from securities underwriters because real estate underwriters take into consideration both the land and the borrower, while securities underwriters focus primarily on the needs and interests of the investor.