Commercial real estate finance is a form of mortgage loan granted on a commercial property, as opposed to a residential home. Any form of income generated from a property where the only purpose is for business, is regarded as commercial real estate. Residential units, office blocks, hotels or shopping complexes are some of the common examples of commercial real estate.
Generally, a person or group of people will seek to buy a piece of commercial real estate with the objective of either using it themselves or leasing the space to generate revenue in the form of rent. This can be generated out of whatever form of business operations are taking place within those premises.
In order to obtain the necessary funds to finance this kind of project, you need to apply for a commercial real estate loan.
HOW DOES COMMERCIAL REAL ESTATE LENDING WORK?
Often for thousands of business owners, the only way of purchasing their own property is via a commercial loan. Commercial real estate finance differs from a home loan when it comes to the amount you can borrow, and the fees and interest rates involved.
When it comes to applying for a commercial loan, as the borrower, you will need a lot of upfront cash. Generally, banks prefer the borrower to put up at least 20-30% of the price of the property – especially if they don’t have other properties to use as security.
Unlike with home loan borrowers, there is no mortgage insurance option to use as a means of securing a commercial real estate loan, if the intended borrower is unable to provide a large enough deposit. In addition to these differences, you can expect to pay off your commercial loan over a much shorter term than the standard home mortgage. Commercial real estate loans tend to be negotiated at most, over a 20-year term.
Excluding residential investments, commercial real estate loans are not governed by the National Consumer Protection Act. Therefore, you will not be afforded the same level of protection when you borrow for commercial reasons as you would be as a home loan borrower.
COMMERCIAL PROPERTY FINANCING OPTIONS
Once you have made the decision to purchase a business or invest in commercial premises you will then need to decide on the best loan suited to your situation.
With the vast amount of choices available it is sometimes easier to seek help from a mortgage broker.
Just as there are with home loan packages, you will have the option of fixed, variable or a combined rate. In addition to these rate choices, you will need to consider if you want to pay interest and principal or interest-only repayments. Keep in mind that you will need a much larger deposit for a commercial loan than you do when purchasing a home loan. You should prepare yourself to put up at least 30% of the purchase price of the property.
The most widely used commercial real estate loans include:
- The refinancing or purchasing of a commercial property: If this is your first purchase as a property investor, or the premises is already tenanted, this may suit you.
- Construction loans and for the development of property: Suitable for borrowers who wish to develop properties in the commercial or residential space.
- Purchasing or refinancing businesses: These loans are designed for people wishing to purchase an established business.
Other loans are available should you want to subdivide a property or expand existing premises.
COMMERCIAL REALTY FINANCE INTEREST RATES AND FEES
Due to the fact commercial real estate finance is assessed very differently from home loans, you are not able to choose any rates you want. Your qualifying criteria may directly impact and change your resulting interest rate.
Your ability to service the loan is calculated differently to a home loan. With a commercial real estate loan, they look at the amount of income you have left over, once all of your outgoings have been paid and then determine and compare it to your debt repayments.
The legislation surrounding commercial real estate finance is less stringent than that of home loans. For this reason, banks are not as constricted with their lending policies. For instance, banks are under no legal obligation to show any burden of proof surrounding an applicant’s ability to repay the mortgage.
As a commercial real estate borrower, you have a number of options available to you to prove your income:
- Full documentation: Here you need to supply a full list of your financials as part of a standard loan application.
- Lease documentation: For this option it is your responsibility to show that the income generated from the lease equates to more than what you will need to repay in interest.
- Low documentation: If you choose this option you will only be required to provide some of your income. This may be in the form of bank statements or correspondence from your accountant.
- No documentation: You will not be required to provide any proof you can afford to repay the loan.
- Forecasts: You will be required to compile a profit and loss predication indicating how receiving this loan will give your business the ability to generate enough extra income to repay the debt.
Regardless of the apparent lackluster criteria, banks are not in the business of throwing money away. If you are considered to a high-risk investment, you are unlikely to receive commercial real estate finance from a major bank. A smaller specialised finance provider may consider your application instead.
Your commercial loan application will be considered based on your reason for applying. The following reasons are based on their level of risk:
- Low risk: Purchasing an investment property to be leased out.
- Medium risk: Buying or refinancing business real estate which is already leased or one you intend to use as your own business.
- High risk: Using the money to finance the general running of your business or to cover the shortfalls.
All applications will be considered on their individual merits in addition to the level of projected risk. How you use your loan is more important when determining the purpose than what it is secured on.
APPLYING FOR A COMMERCIAL REAL ESTATE LOAN
Before applying for commercial real estate finance, you need to consider a number of factors:
- The term of the loan: Commercial real estate loans have a shorter-term contract than home loans. The majority of these loans will be contracted for five to fifteen years.
- The amount of the loan: Due to nature of the high prices to purchase a commercial property, the loan itself will be considerably higher than a standard home loan. These types of loans are usually determined on what the bank thinks your business will be able to repay and by which date.
- Fees incurred: Consider the fees you will have to pay upfront as well as what you will be charged to apply and establish the loan. Most loans will also incur maintenance fees.
- Repayments: Flexible repayment options usually accompany a commercial real estate loan. When your cash flow is tight you should consider looking at all of your repayment options, especially the option to only pay the interest of the loan.
- Annual reviews: Most commercial real estate loans will face a yearly review. Here you will be expected to show your bank all of your finances and trade history.
FREQUENTLY ASKED QUESTIONS
Is it best to use a mortgage broker?
When seeking to apply for a commercial real estate loan it can be difficult to get information regarding the banks’ pricing and lending policies. For this reason, it can be a lot more complicated to apply for than a standard home loan. Generally, investors prefer to work with a commercial real estate mortgage broker when purchasing commercial property. A seasoned mortgage specialist has the ability to walk you through the entire process of your purchase. If your transaction is particularly complicated, having a mortgage expert who specialises in that complex area can be a major advantage to your end result. An addition to this benefit, having a broker submit your loan indicates to the bank they’re dealing with a more sophisticated borrower.
Couldn’t I get a better deal by cutting out the middle man and going direct to the bank?
Contrary to popular belief, cutting out the middle man (the mortgage broker in this instance) is not always the best way to save money or even get a better deal. Many commercial borrowers can often miss the opportunity of securing the best deal when they approach the bank directly. A mortgage expert will know all the tricks of the trade including
where to shop around for the best deal. The mortgage broker has no loyalty to a particular bank or lender. Their priority is getting you the most competitive offer and will ensure you’re not overcharged by your existing bank or a new lender.
What will a commercial mortgage broker do on my behalf?
In most situations, a commercial mortgage broker will have an initial consultation to determine your requirements and your ability to work together. Following that, you will generally send in all of your necessary information and documentation they can use to determine which lenders will be most likely to approve your commercial real estate finance and offer the best deal. From here, you will receive an Indicative Funding Proposal and on acceptance of this proposal, an evaluation will be arranged, and they will then submit a full loan application to await approval.
CONTACT THE MORTGAGE BROKER EXPERTS
At Mortgage World Australia we have been in the business of helping Australians with their commercial real estate loans for years. We have both the skills and experience to be able to ascertain your situation and determine which lenders would be the best match for your commercial loan application. We know which loans will save you the most money when it comes to commercial property finance.
Contact one of our finance experts today to discuss purchasing your commercial property.