Last Updated on February 29, 2024 by Gerry Stewart
Who said you need deep pockets to secure commercial property? Small business commercial real estate loans open doors for savvy entrepreneurs. We outline clever ways to land financing, no trust fund required. Your custom-designed workspace awaits!
- Preparation is vital – have your personal and business finances in order.
- Work with an experienced commercial real estate lender familiar with your local market.
- Be ready to provide extensive documentation on your finances and the property.
- Loan approval hinges on your credit, down payment, the property’s viability and overall risk factors.
- Seek loan amounts less than 80% of the property’s value.
Get the Financing You Need to Grow Your Small Business with A Commercial Real Estate Loan
A commercial real estate loan allows a business to buy, refinance or make improvements to a commercial property like an office, retail space, warehouse or other commercial building that generates income. The loan is secured with the property as collateral.
Commercial real estate loans differ from traditional mortgage loans in their purpose, larger loan amounts, and underwriting requirements that evaluate the property’s cash flow and the borrower’s business finances.
Key Insight: By leveraging the insights shared in this article, you’ll be better equipped to navigate the world of small business commercial real estate loans and unlock the potential for your business’s growth and success.
Benefits of Commercial Real Estate Loans
There are many advantages for a small business using a commercial real estate loan to purchase or refinance income-generating property.
These benefits make commercial real estate loans an attractive financing option for entrepreneurs looking to invest in their own workspace.
Ownership and Equity
One of the biggest appeals of commercial real estate loans is that they allow you to purchase and take ownership of the property rather than leasing.
As you pay down the loan principal, you build equity in the real estate asset.
This equity can be tapped in the future through a cash-out refinance or sale. Many business owners prefer owning their workspace instead of renting.
The interest and depreciation expenses associated with a commercial mortgage provide sizable tax deductions that can offset income.
For example, you can deduct the interest portion of your monthly principal and interest payments.
You also deduct depreciation annually as the property slowly decreases in value over its useful lifespan. These tax benefits are unique to owning commercial real estate.
Cash Flow Potential
If structured properly, the rental income generated by an investment property can cover a portion or all of your mortgage loan payments.
Positive cash flow occurs when the collected rent exceeds your total monthly costs of debt service, property taxes, maintenance and other expenses.
Cash flow is a major factor lenders review when underwriting these loans.
Customization and Flexibility
Owning the property allows full control over designing and building out the space to suit your exact business needs.
As your company grows, you dictate expansion plans rather than relying on a landlord.
You can modify the space anytime without restrictions common in leased facilities. This flexibility and customization enables optimal efficiency.
Commercial real estate has historically gained value over longer holding periods. While short-term fluctuations occur, the long-term appreciation potential boosts these properties as strong investments.
If values rise, your equity position improves, giving additional incentive for business owners to opt for commercial mortgages.
Insider Take: Exploring alternative financing options such as microcredit and online marketplaces can provide nimble solutions that align with your unique business needs.
Find the Right Financing Solution for Your Commercial Real Estate Needs
Several loan options are available based on your specific situation:
SBA 504 Loan
SBA 504 loans are a popular financing option for small businesses purchasing owner-occupied commercial real estate thanks to their key benefits:
- Low down payment – Typically only 10-20% down
- Below-market fixed rates – Interest rates capped
- Longer terms – Up to 25-year amortization
In a 504 loan:
- 50% of financing comes from a private lender senior loan
- 40% comes from a CDC/SBA junior loan
- 10% down payment requirement
- Low down payment preserves capital
- Below market fixed interest rates
- Long repayment terms keep monthly payments low
To qualify for a 504 loan:
- Business must be for-profit and owner-occupied
- Meet SBA size standards
- Minimum 10% down from borrower
- Credit score above 680
Use of Funds
504 loans can be used to:
- Purchase existing buildings
- Construct new facilities
- Expand or renovate facilities
- Purchase heavy equipment
How to Apply
Work with a lender who partners with a Certified Development Company (CDC). The CDC prepares and submits the application to SBA on your behalf.
With only 10% down, SBA 504 loans give startups and small businesses an easier pathway to finance commercial real estate ownership.
Conventional commercial real estate loans from banks or private lenders typically require a down payment of 20-25%. They involve a shorter approval process but don’t offer the low down payment of SBA loans.
For small businesses planning to build a structure on vacant land or embark on major renovations to an existing property, construction loans offer short-term financing to fund these costs.
A construction loan or construction-to-permanent loan is typically an interest-only loan that covers 100% of construction hard costs and soft costs. Hard costs include materials and labor, while soft costs cover fees, permits, design expenses and other associated costs.
During the construction phase, you only pay interest on the loan amounts disbursed, saving major cash flow. The lender distributes loan funds incrementally as certain project milestones are met. An inspection from the lender ensures the stage of completion before releasing additional funds.
Once construction finishes, the loan converts or transitions into a conventional commercial mortgage such as a 10, 20 or 25-year loan to be paid back over the permanent amortization term. These long-term mortgages can be fixed or variable rate loans.
Benefits of construction financing include:
- Covering all costs – Hard, soft and even land acquisition
- Paying only interest during the build – Preserves capital
- One loan from start to finish – Streamlined process
- Custom solutions for each project – Flexibility
To qualify, lenders analyze your financials, credit profile and also the viability of the plans, specs and budgets for the proposed project. Having experience as a real estate developer or builder helps secure financing.
For small business owners looking to create their ideal space, construction loans paired with takeout financing offer an all-in-one solution to make your vision a reality.
What Do Lenders Look For?
When reviewing a commercial real estate loan application, lenders analyze:
- Your personal and business credit scores and financials
- The property’s age, condition, occupancy rates and cash flow
- Your down payment amount and sources
- Your equity stake and collateral pledged
Bringing strong financials, healthy cash reserves and excellent personal credit will boost your chances tremendously.
Tips for Getting Approved
When applying for a commercial real estate loan, follow these best practices to boost your chances of getting approved:
- Have a minimum 700 personal credit score
- Check credit reports and resolve any errors
- Pay all current obligations on time
- Reduce credit card balances
- Show increasing annual revenue/profits
- Have 3+ years of business tax returns
- Maintain a debt service coverage ratio above 1.25
- Have substantial skin in the game via equity
- Ideal to put 20-25% down if possible
- Have funds sourced from your own reserves
- Larger down payments reduce risk for lenders
Property Due Diligence
- Select a property with strong occupancy history
- Prioritize newer buildings and popular locations
- Verify zoning allows intended business use
- Complete professional inspections
- Seek loan amounts less than 80% of property value
- Compare loan terms from multiple lenders
- Select longer amortization terms to lower payments
- Engage commercial real estate and legal professionals
- Choose an experienced local lender familiar with market
- If using SBA 504, pick certified development company
With proper preparation and persistence, securing commercial real estate financing is achievable. Follow these tips to impress lenders and get your loan approved.
The Application Process
Applying for a commercial real estate loan involves gathering and submitting the following documentation:
Personal Financial Information
- Tax returns for past 2-3 years
- Personal financial statement
- Bank statements
- information on your current residence
Business Financial Information
- Business tax returns for 2-3 years
- Balance sheet, profit/loss statement
- Business debt schedule
- Projections for growth
- Purchase agreement
- Plans for renovations
Expect the application process to take 1-3 months as lenders carefully underwrite these loans. Having organized records will help expedite this.
Interest Rates and Terms
Interest rates on commercial real estate loans typically range from 5% to 8% based on your credit, down payment, the property and overall market conditions.
You’ll also choose between variable or fixed rate financing for terms like 10, 15, 20 or 25-year mortgages. Shorter terms often have lower rates but higher monthly payments.
Commercial Apartment Real Estate Financing
Investing in an apartment building or multifamily property can provide excellent cash flow, appreciation, and benefits for small business owners. However, commercial apartment real estate requires significant capital that is often obtained through financing.
Types of Loans
Commercial loans for apartment real estate include:
- Conventional mortgages from banks
- Small Business Administration (SBA) 504 and 203(k) loans
- Fannie Mae or Freddie Mac multifamily loans
- Portfolio loans from private lenders
Typical terms for apartment real estate loans are:
- 5, 7, 10 year terms
- 20-30 year amortization schedule
- 65-80% loan-to-value ratio
- Minimum debt service coverage ratio of 1.20x or higher
To qualify for apartment financing lenders evaluate:
- Borrower’s credit score, financials, experience
- Property occupancy rates and cash flow
- Location, demand, and local rental markets
- Property condition and renovations needed
Apartment financing provides:
- Fixed low interest rates
- Ability to build equity
- Less volatility than other commercial real estate
- Steady rental income with long term tenants
Work with a lender experienced in multifamily lending. Location, building classes, and market-specific factors impact underwriting.
For small businesses, owning income-producing multifamily properties financed through commercial real estate loans can diversify your portfolio.
Refinancing Commercial Property
After purchasing commercial real estate, owners may opt to refinance their mortgage for several strategic reasons. Two common options are cash-out refinancing and rate/term refinancing.
A cash-out refinance allows you to take equity out of the property in the form of cash. This is done by refinancing for a higher loan amount than your existing mortgage and keeping the difference as cash proceeds.
Reasons to cash-out refinance include:
- Funding business operations and expansion
- Starting new product lines or locations
- Renovations to update facilities
- Purchasing equipment, inventory or supplies
- Paying off high-interest business debt
The new loan amount is limited to a maximum percentage of the appraised property value. Cash-out refinancing works best when significant equity has built up.
With this type of refinance, a new loan replaces your existing mortgage but for the same remaining principal balance – no cash is taken out. The motivation is to secure a lower interest rate or switch to a better loan term.
It makes sense to refinance for rate/term when:
- Interest rates substantially improve from original mortgage
- Switching loan terms can improve cash flow
- Older loan has prepayment penalties or restrictions
- Updating to better loan features and protections
Refinancing commercial property can help owners optimize their real estate investment through prudent use of equity and loan structuring. Consult with a loan officer to review options.
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Small Business Commercial Real Estate Loans: Alternatives to Traditional Financing
Beyond conventional commercial real estate loans from banks, also consider these alternative financing options:
SBA 7(a) Loans
- Offered by SBA lenders for general business purposes
- Up to $5 million loan amount
- 85% financing of purchase price
- Long repayment terms up to 25 years
USDA Business & Industry Loans
- For businesses in rural areas
- Loan amounts between 25K – 10M
- 80% financing for real estate
- Low fixed interest rates
Community Development Financial Institutions
- Target underserved communities
- Flexible products for startups and small business
- Focus on low-income areas
- May offer better rates than market
Commercial Lines of Credit
- Revolving credit for ongoing capital needs
- Floating interest rates tied to prime or LIBOR
- Only pay interest on amount used
- Typically renewed annually
Hard Money Loans
- From private investors rather than institutions
- Interest-only payments and short terms
- Much faster closing than traditional loans
- Higher prime rates offset by quick access to funds
- Purchase directly from property seller
- Down payment to seller instead of lender
- Seller carries mortgage with set payments
- Typically higher interest rates than banks
These alternative financing options provide more choices to fund commercial real estate beyond standard loans. The best fit depends on your business, finances, timeline and risk appetite.
All Things Considered
From custom build-outs to long-term tax savings, small business commercial real estate loans unlock game-changing perks. Follow our advice to keep lenders saying yes so you can transform workspace visions into reality. To explore financing options for your own commercial property ambitions, dial 888-653-0124 today.
With proper diligence and a strategic approach, your small business can secure the commercial real estate loan it needs to move to the next level.