Commercial real estate financing options are an essential part of any commercial real estate transaction. Whether you’re buying or selling property, there’s always a lot of paperwork involved.
There are several different types of financing options available. Some are better suited for certain types of transactions, while others are more suitable for other situations.
In this article, I’ll discuss the pros and cons of each type of commercial real estate financing option and give you some insight into which one might be best for you.
Types of Commercial Real Estate Financing in November 2022
Commercial real estate loans can come in two forms: purchase-money mortgages and refinance/rehabilitation mortgages. Both have their advantages and disadvantages, but they both serve similar purposes. The main difference between them is that your loan will go towards paying off the seller’s existing debt on the property with a purchase-money mortgage. With a rehab/refinance mortgage; however, you pay off the current owners’ debts and add new ones onto the property.
Purchase Money Mortgages
A purchase-money mortgage allows buyers to borrow against the value of the land itself rather than borrowing from another party.
If the buyer defaults on his payments, he will not lose anything because the lender owns the land outright.
In addition, since the borrower only needs to put down 10% of the total cost of purchasing the property, lenders often offer lower interest rates than traditional bank loans. However, these benefits don’t necessarily apply when refinancing a home; instead, borrowers should look at the terms offered by private lenders who specialize in such deals.
How To Get A Loan For A Commercial Property with Refinancing in
When you refinance a commercial property, you take out a second mortgage over what you owe.
To qualify for a refinance of commercial loans, you need to show proof that the original owner defaulted on the first mortgage. If the previous owner paid all back taxes and insurance premiums, then you may not even need to provide documentation proving that the prior owner failed to make payments.
The advantage of getting a refinance loan is that you get to take out a more significant amount of cash upfront based on how much equity you’ve built up over time. Since most banks require 20%-30% down payment amounts, having a large chunk of cash saved makes it easier to buy a house.
Drawbacks of Refinancing an Income-Producing Property
There are also drawbacks to using a refinance for multifamily properties. Because multifamily buildings tend to generate higher rents, the average monthly income generated by those units tends to exceed the maximum loan limit set by Fannie Mae. As a result, most banks aren’t willing to lend enough money to cover the entire renovation costs of a multifamily project.
If you want to close quickly without going through the hassle of finding investors, you could consider a bridge loan. Private investors or developers usually obtain bridge loans to fund projects until they can secure more permanent funding. Bridge loans typically last anywhere from six months to one year, which gives the developer plenty of time to find additional sources of capital.
However, there are some risks associated with this option. The investor should first ensure that the deal closes within the allotted timeframe. This will prevent her from losing money. Additionally, the developer may have difficulty obtaining future financing after the sale is complete. Third, the developer doesn’t receive any ownership rights to the property once the loan expires.
Types of Commercial Property Financing
Commercial property loans can come in various forms:
1) Hard Money Lenders – These companies will charge high fees but have access to a wider variety of lending products. They generally work with smaller businesses looking to expand their operations into new markets. These shorter-term loans allow small business owners to purchase equipment, build inventory, renovate existing facilities, etc.
2) Construction/Development Banks – These institutions focus on providing long-term debt solutions for development projects. Their primary goal isn’t to maximize profits as much as it is to ensure that the project stays afloat during the initial stages of completion.
3) Multifamily Mortgage Finance Companies – MFMC’s are similar to conventional banks, except they cater specifically to apartment complexes. Having a track record of success means that these lenders offer lower rates than conventional financing. However, because they specialize in multifamily mortgages, they don’t always have access to other kinds of business loans.
4) Venture Capitalists – VC firms invest in start-ups and small businesses. The main difference between them and private equity groups is that venture capitalists are interested in maximizing profit while private equity focuses on minimizing losses.
5) Equity Investors – This group consists of individuals who purchase shares of stock in privately owned corporations. Unlike venture capitalists, equity investors do not put money directly into a company; instead, they sell their stake in exchange for a return on their investments.
6) Online Lenders – Some online mortgage brokers provide short-term loans at competitive interest rates. A longer-term loan request requires the borrower to fill out a credit application form. Once approved, the lender transfers the funds electronically via wire transfer. Long-term financing may require collateral such as land or equipment.
How Much Down Payment For Commercial Property?
Short-term financing for a commercial property requires at least a 20% down payment. If the borrower does not have sufficient cash reserves, he may need to borrow against his assets such as home equity lines of credit, second mortgage, or car title.
The amount required depends upon several factors, including how large your down payment is, what kind of collateral you plan to pledge, and whether you intend to pay off the loan over five years or ten years. In general, the larger the down payment, the less likely you are to default. You should consult with a qualified financial advisor if you decide to take out a short-term loan.
Commercial financing for these types of loans typically comes from one of two sources:
1) Private Sources. Most people use their savings when purchasing commercial properties. Some people also turn to bank loans which require a higher interest rate.
2) Government Loans. A government agency like HUD offers low-interest loans to first-time buyers. To qualify for these programs, borrowers usually need to prove that they meet specific income requirements.
What Is An Amortization Schedule, And How Does It Work?
A monthly amortization schedule shows how much is due on each installment.
You divide the total cost by the number of months left until the entire balance is repaid when calculating this figure.
For example, let’s say individual borrowers want to buy a $500,000 commercial property using a 30-year fixed-rate mortgage. Your lender would then calculate the following figures $500,000 x.30 $15,000 per month.
This calculation assumes that all payments will pay off the principle rather than any additional costs associated with owning the building.
If we assume that the buyer wants to make 12 monthly payments for this loan repayment schedule, then the amortization schedule looks something like this:
Principal + Interest Payments | ___________| Total Balance Payable
- Month 1 | $ 15,000 | $ 45,000
- Month 2 | $ 15,000 + $ 3,600 $ 48,600
- Month 3 | $ 15, 000 +$ 7,200 $ 52,800
- Month 4 $ 15,,000+$12,960 $ 67,560
- Month 5 $ 15,.000+$18,720 $ 85,680
- Month 6 $ 15.,000+$24,480 $ 113,280
- Month 7 $ 15..000+$31,760 $ 141,040
- Month 8 $ 15,…00+$38,640 $ 170,400
- Month 9 $ 150…0+$46,320 $ 206,080
- Month 10 $ 15….00+$53,920 $ 233,840
- Month 11 $ 15…..0+$60,880 $ 260,440
- Month 12 $ 15……0+$67,520 $ 287,180
Once again, remember that the above numbers only apply if the buyer makes equal payments every month.
Amortization schedules can help you determine if the terms offered by lenders are fair. They show you how long it takes to repay the principal plus interest charges based on different repayment periods.
You might find some lenders offer longer-term mortgages because they believe those rates are more attractive.
Business Loan For Property Purchase
A business owner may consider Investment property loans to finance their purchase of investment property.
In addition to these loans, many people use home equity lines of credit or second mortgages.
The most common form of business loan for property purchases is called a mezzanine loan. This type of loan allows investors to borrow against the value of their existing assets without selling them.
You can secure mezzanines for receivables and inventory.
How Do I Find Out If My Business Can Qualify For Commercial Mortgage Refinance?
The purchase price and loan options vary depending upon your needs and financial situation. The best way to get started is to contact one of our experienced brokers to answer questions regarding your specific circumstances.
To qualify for a commercial refinance, you should have a solid financial track record that includes good collateral, strong cash flow, and sufficient working capital for this loan product. You also need to demonstrate that you have access to at least 80% of the funds necessary to close within 60 days after closing.
Things to Consider When Choosing Commercial Space vs. Retail Space
Office spaces tend to carry higher rates than retail locations. Therefore, most landlords prefer to rent office space rather than retail stores. An office building will often include conference rooms, breakrooms, parking lots, loading docks, mailboxes, restrooms, and elevators. Retail centers usually consist of open-air shopping areas where customers walk around looking for products they need.
The location of your commercial property affects the cost of renting it. Properties close to public transportation systems attract tenants since employees can easily commute from home. Other desirable features include easy access to highways, railroads, airports, and seaports.
Commercial buildings also have different energy requirements depending upon their intended usage. If you plan to operate a restaurant or bar, you will want to make sure there is adequate lighting throughout the building. You should consider installing skylights if possible. In addition, you may want to install heating units to maintain comfortable temperatures inside during cold weather.
A management company handles running a commercial facility such as hiring staff members, paying utilities, maintaining equipment, cleaning facilities, and providing security services. The manager usually receives a percentage of the revenue generated by the tenant. This arrangement allows owners to focus on other activities without worrying about day-to-day operations. However, this model requires extensive planning and preparation.
How Much Can I Afford With My Business Annual Debt Service Ratio?
Business debt service ratio refers to the total annual interest expense paid out against the total annual net operating revenues. DSR helps lenders determine which businesses can pay back their loans within the specified period. Most banks require borrowers to maintain a minimum DSR of 0.50%.
Taking Care of Volatile Cash Flows
Having stable cash flow is critical when refinancing the commercial property. The stability of your cash flows is even more important than when purchasing new properties. Why? Because there’s no guarantee that the same amount of rent will be coming into your bank account each month.
When buying a commercial property, you know what income stream you’ll receive from day one. But when you’re refinancing, you don’t always know what kind of cash flow you’ll experience until you’ve closed escrow. That means you could end up taking out a more extensive line of credit than initially planned to cover unexpected expenses.
Future cash flows are essential here. A lender wants to make sure that they won’t lose any money during the loan term. So, while you wish to pay off all outstanding debts before closing, you must keep in mind that future cash flows are crucial.
If you plan, however, you can avoid these problems altogether. Here are three ways to ensure that you have enough cash flowing through your business:
1) Develop a budgeting system. It doesn’t matter whether you use Excel spreadsheets or paper accounting systems; both methods work well. Just make sure that you stick to a regular schedule.
2) Keep tabs on your monthly expenditures. Make a note of every expense — everything from utilities to advertising costs. Then compare your actual spending habits to your projected ones. Once you see where you overspent, try cutting back on certain items.
3) Set aside extra cash for emergencies. When you set aside $1000 per week, put the positive cash flow away in a separate savings account. Don’t touch it unless something awful happens. By doing this, you force yourself to live within your means with adequate cash flow. And if things do go wrong, you still have the safety net of your emergency fund.
Commercial real estate financing options include hard money loans, bridge notes, construction loans, and others. It’s important to know what each option offers and which ones work well for your particular situation.
To learn more about these options, please give us a call at (888) 653-0124 today!
Have Any Additional Questions?
FAQs for Commercial Real Estate Financing Options
Can I Borrow Money Against My Commercial Property?
Commercial lenders often require borrowers to provide additional security as part of their lending package. This may involve giving equity, personal guarantees, or other forms of security. The most common form of security used by commercial mortgage companies is called “equity.” Equity refers to the value of the borrower’s interest in the property being financed.
If the owner agrees to sell their ownership share to the lender, they own 100 percent of the property. However, if the owner does not agree to sell their shares, then the lender only receives a percentage of the total value of the property based upon how much equity they own.
Loan terms vary depending on the amount of equity provided by the borrower. For example, if the borrower provides 10% equity, the lender will typically offer a 30-year fixed-rate loan. On the other hand, if the borrower provides 20%, the lender might offer a 15-year adjustable-rate loan.
In addition, some lenders also allow the borrower to purchase insurance against loss of collateral. These policies protect the lender should anything happen to the building, such as fire damage or vandalism.
How Many Years Can You Finance Commercial Property?
Most properties that qualify for this type of financing have been under contract for at least one year.
The lender will typically require you to pay back the loan within five years. If you want to finance the property with this option, make sure you can afford the payments over time.
A balloon payment may be required if your mortgage balance exceeds 80% of the value of the commercial property. In addition, there could be additional fees associated with this kind of loan.
What Is A Balloon Payment, And How Does It Work?
If you take out a conventional loan on a piece of commercial property, you might end up paying off the entire amount in just three years. However, when you use a balloon payment, you must repay all of the principal plus interest by a specific date. This means that you won’t get any extra time to save up enough cash to cover the remaining portion of the loan.
A private lender specializing in commercial mortgages uses a formula known as amortization to determine how long it takes to repay the loan entirely. Amortization means calculating the monthly payments needed to pay down the debt. Once the loan reaches zero, the remainder of the original loan becomes due immediately.
Calculating balloon payments requires two numbers: the original loan amount and the term length.
When calculating the balloon payment, multiply the number of months left until maturity times the outstanding principle divided by twelve. Then add the result to the current month’s payment.
How To Qualify For A Commercial Real Estate Loan?
Your business credit score plays a significant role in determining whether you qualify for a commercial real estate loan. Your score determines what type of loan you receive and how big of a loan you can obtain.
When reviewing your application, lenders look at several factors, including your income, employment history, assets, liabilities, and overall financial health.
The best way to improve your score is to keep track of your spending habits and avoid incurring new debts. Paying bills late increases your risk level because it shows that you don’t always meet deadlines. Also, try to build positive relationships with creditors by regularly communicating with them regarding missed payments.
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