Investing or purchasing commercial real estate can be both an exciting and stressful venture. However, most small business owners cannot manage to buy commercial property without the help of commercial real estate financing. Commercial property loans can help you turn your dream into reality even if you don’t have enough collateral to back up the loan.
But before you find a commercial real estate lender, it’s a good idea to understand the various types of commercial real estate financing to choose the one that works for you. In addition, not all commercial lenders are the same, but we’ve done the heavy lifting for you. By the end of this post, you’ll know the best place to get a commercial real estate loan.
What Type of Loan is Best to Purchase a Commercial Property?
If you’re looking to buy a commercial property but don’t have enough funds to finance your purchase, a commercial real estate loan will help you realize your dream. Commercial loans come in different types, so knowing the various available options will help you choose the right one for your needs.
Common Types of Commercial Real Estate Financing
Commercial real estate financing options come in different shapes and sizes, each with pros and cons. Although there are several financing options that business owners can tap into to purchase or invest in commercial real estate or investment properties, there are six common types of commercial real estate loans—understanding how each work will help you determine the right one for you.
Ordinary Loans
An ordinary loan, popularly known as a conventional loan, is a mortgage not guaranteed by a government agency. These loans are typically offered by private lenders, such as banks and credit unions. Since ordinary loans are not backed by the federal government, they have strict lending requirements.
Seller-financed Loans
Also referred to as owner financing, seller-financed loans allow real estate investors to get financing directly from the seller rather than taking out a mortgage loan. The financing option is mostly preferred over conventional bank mortgages due to their flexible repayment terms and down payment size. Also, the seller financing process is much faster, and you can get the funds in a week or less.
Permanent Loans
Permanent loans are mortgages with longer than standard terms, but they’re not permanent, as the name suggests. Commercial real estate investors usually take out this type of loan to cover the development costs, construction loans, and other expenses. As a result, they have a longer amortization schedule than other business financing options.
SBA Loans
The U.S. Small Business Administration offers two loan programs that small businesses can use to finance commercial real estate. Since the SBA guarantees these loan programs, you’ll likely get favorable interest rates because of their lower lending risk. Here are the two common SBA loans for commercial real estate financing:
- SBA 7(a) Loans: The most popular SBA loan program is the 7(a) loan, which is guaranteed by the SBA up to 90%. It’s ideal for real estate purchases but can be used for other business purposes, including working capital, buying inventory, and business expansions. You can borrow up to $5 million through a private lender, with repayment terms of up to 25 years.
- SBA 504 Loans: With the SBA 504 program, you must put down 10% of the loan amount, 50% is provided by a private commercial lender, and the remaining 40% is offered by an SBA Certified Development Company. You can use the funds to buy land, purchase real estate machinery or equipment, or improve existing facilities. Unlike SBA 7(a) loans, you cannot use 504 loans as working capital.
Bridge Loans
Bridge loans are short-term commercial real estate loans with repayment terms between six months and two years. Small business owners typically use commercial bridge loans to “bridge the gap” between their current financing needs while in the process of acquiring a more long-term financing solution. Individuals also use bridge loans to bridge the funding gap between purchasing a new home and selling their current residential real estate.
Hard Money Loans
Hard money loans are a form of short-term financing issued by private lenders or individuals who do not need much proof that you can pay back the borrowed amount. Lenders are much more concerned about the value of the property.
This type of commercial real estate financing is suitable for business owners with less-than-stellar credit scores who may find it hard to get a loan from banks, credit unions, or other traditional lenders. In addition, since hard money loans are a form of short-term financing, they’re typically repayable within three to 36 months.
Typical Terms of a Commercial Mortgage
The repayment terms for a commercial real estate loan typically range from five to 20 years. However, unlike term loans, commercial real estate financing has a longer amortization period. For instance, if you have a commercial mortgage for a term of 15 years with an amortization period of 30 years, you’ll need to make monthly payments for 15 years, followed by one lump sum of the remaining loan balance.
The interest rate your lender will charge depends on the loan term and the amortization period. It’s important to note that choosing a more extended repayment term could mean higher interest rates.
Common Requirements to Qualify for Commercial Real Estate Financing
As with any other form of financing, lenders have specific requirements for commercial real estate financing. While requirements may vary from lender to lender, here are the most common ones:
- Business plan
- Business tax returns
- Financial reports
- Third-party property appraisal
- Collateral
Keep in mind that your lender may ask for more documentation during the application and approval process. The back and forth between you submitting documents and the lender requesting more could be one of the lengthiest parts of the commercial funding process.
How Much Down Payment Do You Need for a Commercial Property?
Unlike traditional mortgage loans that require a 20% down payment, the amount you need to put down for commercial mortgages differs. Most commercial lenders need at least a 30% down payment. However, you can confirm with your lender and compare the eligibility requirements of other lenders.
What Credit Score Do You Need for a Commercial Loan?
If you’re looking to get a commercial property, your lender will likely want to see your business and personal credit score. The score is used to determine your risk as a lender. The minimum credit score for commercial lending may vary by lender but typically ranges between 660 and 680.
Apart from credit score requirements, lenders may also want to know how long you’ve been in business to evaluate your credit risk. For example, to qualify for a commercial real estate loan, you need to have been in business for at least one to two years.
