Last updated on March 10th, 2019 at 11:44 am
A Commercial real estate loan is used to acquire property for business operations, or other income-producing commercial properties.
To determine what kind of commercial mortgage best suits you, first you must consider how the real estate will be used.
Commercial real estate loans vary with regards to the length of terms as well as fees and interest rates. Some terms cover up to 30 years, while others might be no more than a few months.
Keep reading to learn more about long-term commercial real estate financing options. Including the types of real estate loans that are available, and how to qualify for a commercial mortgage.
If you are the owner of a small business and are curious to know whether you qualify for a long-term SBA 7 (a) loan for commercial real estate, first, consider:
- Do you have good credit?
- Have you been in business for 3+ years
- Will you occupy majority of the building you plan to finance?
- Can you make a 10% down payment?
If the answer to these questions is yes — you may qualify for a long-term SBA 7 (a) loan.
Commercial Real Estate: Types of Commercial Mortgages
To ensure you apply for the most appropriate loan, you must be aware of all the options available to you.
As stated above, there are certain criteria, and conditions that may suggest one loan or the other might be one that suits you best.
In total, there are three types of long-term commercial real estate loans. Let’s take a look at what they each entail:
Traditional Commercial Mortgage
Traditional commercial mortgage has terms that can land anywhere from 5 – 25 years. Interest rates vary from 4.5% – 7.5%. Balloon payment may be included.
SBA 7 (a) Loan
With SBA 7 (a) loans, terms are longer (though less variable), landing anywhere from 20 – 25 years (fully amortized). Interest rates are variable at 5% – 6.25%. No balloon payment is included.
CDC/SBA 504 Loan
Business owners can expect terms to run from 10 – 20 years, and variable or fixed interest rates of 4% – 5.5%. An SBA 504 loan, unlike the two I mentioned above, is made in two parts:
- The first mortgage from the bank, which can be a fixed rate (but can, in some cases, be variable). This may also include balloon payment.
- The second mortgage from CDC; this comes at a fixed rate and is fully amortized.
It’s important that you are aware of this distinction as it affects what financing will be available to you.
If it’s a case where your business will occupy 51% (or more) of the property, you are then qualified for a government-backed loan program through the SBA.
On the other hand, buyers who of commercial investment properties, whose business will occupy under 51%, have only traditional commercial mortgages to back them.
Learn What Financing is Available to You
Your commercial real estate will fall into two broad categories, each of which will determine what financing will be available to you:
- Income producing commercial Real Estate – This is where you intend to lease the majority of the desired space to other businesses.
- Owner Occupied Commercial Real Estate – You intend to occupy 51% (or more) of the space, in which your business will operate.
How Do You Qualify For a Commercial Mortgage?
There are five requirements you will have to meet in order to qualify for a commercial loan:
- Your business must be 3+ years old
- Your credit score must be 680+
- No (recent) foreclosures, bankruptcies, or tax liens
- A 10% (minimum) down payment
- Your business must have a DSCR of 1.15+
These requirements may be adjusted for borrowers with high net worth, or investment properties with high net operating income. However, in most cases, the above-mentioned requirements are a standard.
Remember, if your business will occupy 51% or more of the property you will operate out of, and you need over $250k, chances are you may prequalify for a long-term SBA 7 (a) loan. To find out if you qualify, check out SmartBiz.
Commercial Real Estate Loans (For Owner Occupied Properties)
When your business will occupy 51% or more of the property of operations, you are then eligible for SBA loans, as well as traditional commercial mortgages.
‘SBA loans’ are not actually paid out by the Small Business Administration. Instead, the SBA lays out particular guidelines regarding the process. The Small Business Administration also guarantees a fraction of that loan.
Through SBA-guaranteed loans, lenders are offered more leverage. This means they can offer borrowers longer terms, better rates etc.
In some cases, they may even accommodate borrowers who may not be eligible for a traditional mortgage loan due to low net worth, lack of collateral, or whatever reason.
As far as commercial real estate goes, there are two types of SBA loans:
- Long-term SBA 7 (a) loans
- CDC/SBA 504 loans
Let’s dissect the long-term SBA loan, and see how it works:
SBA 7 (a) Loan
The difference lies in the SBA guarantee that we talked about earlier.
In order to ensure that the SBA guarantee takes effect, the bank must see to it that you and your business meet very strict standards. These standards are set by the SBA.
If you are approved for the SBA guarantee, then you owe the lender (which is NOT the SBA), which in turn means you will pay the lender or their servicing company.
An SBA 7 (a) loan can serve a number of purposes that will prove useful if you are purchasing equipment or working capital.
A long-term SBA 7 (a) loan takes it a bit further, and can also be used to purchase office buildings (and other work space) for business operations.
You may also find it useful if you are looking to refinance existing commercial mortgages. This, however, cannot be another SBA guaranteed loan.[table “63” not found /]
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Where to Get an SBA 7 (a) Loan For Commercial Real Estate
When it comes to obtaining an SBA loan, there are a few lenders to choose from:
- Community development corporations
- Credit unions
- Small, community banks
- Large, national banks
Knowing where to obtain a loan, however, is not the be all and end all. If for instance, you took a commercial real estate deal of under $400k to a big national lender, you probably won’t get the time of day.
A lender of that scale may have countless deals on the table (of considerably larger size), and simply won’t be interested.
On the other side of the fence, if you brought a $2 million deal to a small community bank, that may be a bit out of their resources.
Keep in mind, if you have good credit, have been in business for 3+ years, and will occupy 51% of the desired space, you may prequalify for an SBA 7 (a) loan. In fact, (if you can make a 10% down payment) you can get prequalified in minutes.
If you are in need of an owner-occupied commercial real estate loan of $250k – $5,000,000, consider working with SmartBiz, a fast and helpful provider.
CDC/SBA 504 Loan For Commercial Real Estate
A CDC/SBA 504 loan is comprised of two parts and can be used to purchase owner-occupied commercial real estate and equipment.
You receive the first mortgage via the traditional lender (a bank for instance), which covers up to 50% of the project’s expenses.
The second mortgage comes from a CDC (Community Development Corporation) and covers up to 40% of expenses. The buyer’s down payment covers 10% of the total project cost.[table “62” not found /]
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It is true that a CDC/SBA 504 loan carries lower rates compared to SBA 7 (a) loans. They also have few disadvantages. Let’s break them down:
- Their longest term spans 20 years, in other words, 5 years shorter than you would get through the SBA 7 (a).
- The first mortgage that comes from the bank is accompanied by an interest rate reset that usually comes at 5 years, as well as a balloon payment at 10 years. Simply put, you’ll need to fork up some serious cash half way through your loan, or turn to refinancing. You would then be liable to fall victim to an industry downturn or rising interest rate.
- SBA applications can take a while to process. With an SBA 504 loan, however, the process can be even longer. This is due to there being more standards that are harder to meet: job-saving/creating standards. Everything has to be synchronized with 5 entities: the bank, the seller, the CDC, SBA, and of course you – the buyer.
You might see why the 25-year SBA 7 (a) loans from companies such as SmartBiz can be attractive to small business owners.
Where to Get a CDC/SBA Loan (For Commercial Real Estate)
Like the previous loan we discussed, a CDC/SBA 504 loan for commercial real estate can be obtained from a variety of lenders:
- Community Development Corporations (CDC)
- Credit unions
- Small, community Banks
- Large, national Banks
In total, there are 270 CDCs nationwide. Needless to say, narrowing them down can be time-consuming. This is made easier with the SBA’s CDC Finder Tool.
Consider connecting with the SBA district offices as well. They sometimes compile the top rated 504 lenders in the region.
If you are looking for a nationwide SBA 504 loan provider, we highly recommend Liberty SBF. A borrower is eligible for a loan, so long as:
- You have a credit score above 680
- You have been in business for 3+ years
- And need $500k+ for your commercial real estate
You do have options. In the event that you meet the above-mentioned requirements (and are able to make a 15% down payment), consider checking your prequalification for a long-term, SBA 7 (a) loan for commercial real estate through SmartBiz.
Owner Occupied Real Estate: Traditional Commercial Mortgages
When it comes to commercial real estate loans that aren’t backed by the government—there are plenty.
All of which fall under the umbrella of traditional commercial mortgages.
The absence of the government guarantee spells greater risk for lenders when they make a loan. This is how lenders make up for it:
- By offering shorter terms
- By making tougher credit requirements
- Implementing higher interest rates and fees
- Lower LTV – higher down payment
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Where to get a Traditional Commercial Mortgage For Commercial Real Estate
If you are a borrower with excellent credit and tons of collateral, you may be able to get rates similar to SBA loans.
As well as terms on traditional commercial real estate loans for owner occupied property.
If you don’t have pristine credit score, and lots of collateral, there is still a chance you can get a traditional commercial mortgage.
This is due to there being tons of lenders, more specifically, lenders that issue traditional commercial real estate loans. From private ‘hard money’ lenders to large banks, small, community banks, to life insurance companies.
With life insurance companies it can get a bit tricky. They offer good rates but are very particular about properties they choose to lend against.
Life insurance companies tend to find the biggest deals appealing—in other words the most desirable properties. Not to mention they require huge down payments.
Private hard money lenders are active in the commercial real estate space. They source money from investors, and have even higher rates than life insurance companies (and banks). On the upside, they lend money more quickly as opposed to other lenders.
You will find that while traditional commercial real estate loans are definitely an option, SBA backed loans simply offer more flexibility with regards to:
- And qualification standards
Interested in an SBA-backed loan? We recommend you consider a long-term SBA 7 (a) loan for commercial real estate with SmartBiz. Get prequalified in minutes, and enjoy the support of their team all the way to closing.
Commercial Real Estate Loans (For Investment and Income Producing Properties)
There are situations where a buyer may have to settle for a traditional commercial real estate loan.
For instance, when that commercial real estate will be primarily used for investment or income producing purposes. In such cases, a buyer would not be eligible for SBA-guaranteed loans.
When it comes to commercial real estate loans for investment or income producing properties, eligibility is determined by the lender’s evaluation, and personal finances.
With owner occupied properties, the ability to repay a loan comes down to company performance.
With regards to an investment property, the ability to repay a loan depends on the performance of the property, its tenants, as well as the history (and ability) of the property manager.
Permanent Traditional Commercial Mortgages
Permanent traditional commercial real estate mortgages (like short term traditional commercial real estate mortgages) have no government backing.
Through these loans, buyers can finance the purchase of investment and income producing commercial property.[table “61” not found /]
Credit Score and Personal Finance History
The size of a particular deal will affect the relevance of individual credit scores, and personal net worth. This is in regards to traditional commercial mortgages.
I’ll explain. Let’s say you have a small deal of under $2 million, the bank will scrutinize your personal credit score. Ideally, you’ll need a credit score of 680 or higher.
If your credit is anywhere over 700, you have a greater chance of being qualified. Credit score isn’t the only criteria you have to meet.
The bank will take credit history into consideration as well. We discussed this earlier — no recent bankruptcies, foreclosures, tax liens etc.
A high net worth can make all the difference in a situation where you would otherwise be unqualified. If you have creditworthy tenants in your corner like a Walgreens, this is a reassurance to the lender that the property is a good bet.
So your personal net worth won’t play such a huge factor in approval. Looking for a loan for a vacant shopping complex, for example, may result in the lender paying keen attention to your personal net worth prior to approval.
Now let’s say, you have a larger deal on the table. Let’s go with over $3 million. Individual credit scores or individual net worth won’t be such determining factors in this case.
What lenders would be concerned with is the property itself. That includes, the tenants and team involved in the project. Keep in mind, the more institutional, the less lenders scrutinize personal credit scores.
Here’s an example: if a commercial entity is the potential owner of the commercial property, the lender is likely to focus on that entity’s business credit score as opposed to a personal credit score.
Where can You Get a Traditional Commercial Mortgage (For Non-Owner Occupied Commercial Real Estate)
Borrowers can obtain a traditional commercial real estate loan from:
- Private investors
- Life insurance companies
- Credit Unions
- Small, community banks
- Large, national banks
Speaking with your local lender is a good place to start. You may also want to check out South End Capital. They are a devoted commercial real estate lender, who provide a great platform.
Particularly if you’re interested in long-term commercial mortgages, hard money loans, bridge loans etc. Ideal candidates will have a 30% down payment, and a credit score of 680.
How to Apply For a Commercial Real Estate Loan
Once you meet the requirements for a real estate loan, and you’ve determined the appropriate loan that you need, the next step is to apply for financing.
There is definitely a bit more to applying for a commercial real estate mortgage, as opposed to applying for a business credit card. But this doesn’t mean the process is especially difficult.
I’d suggest you do your best to make a pristine impression when you approach lenders. You may only have one chance to make them take your deal seriously. The better your presentation, the more likely lenders are to trust you.
When applying, there are a few things you will need:
- Loan to Value Ratio – Loan to Value Ratio entails measuring the size of the loan compared to the appraised value of the desired property. While private lenders tend to cap their LTV at 65%, banks are more likely to cap at about 70 – 80%. If a lender has an LTV of 80%, that means they will cover 80% of property cost, and the borrower must cover the balance.
- Debt Service Coverage Ratio – DSCR (Debt Service Coverage Ration) measures a borrower’s capacity to afford a loan, following all other expenses that have been covered.
- Credit and Net Worth Requirements – Earlier we talked about every lender having particular requirements. In some cases, your personal credit score, credit history, and personal net worth will be among them. In order to verify that you meet the requirements, banks will ask that all guarantors, partners, and principals present all personal financial statements. They will have to provide tax returns of the past 3 years as well.
- Net Operating Income – NOI (Net Operating Income) is another measurement that lenders will be observing closely. NOI basically covers your profits prior to loan payments. A low NOI won’t necessarily ruin your chances of getting a commercial real estate loan. That said, the higher your NOI, the better your chances.
- A business plan and financial projections – Whether an investment property or owner occupied property, the lender needs to be assured that you can afford the loan, as well as additional financial obligations. You will have to create a business plan and financial projection that spans the next 3 – 5 years.
Accompanying Costs Beyond Interests Rates
Commercial real estate loans are accompanied by charges beyond interest rates. Proverbially, these are standard charges that are mandatory prior to closing.
In other words, you will need to pay out of your own pockets, as opposed to the proceeds of the loan. In some cases, a borrower may offset these charges by taking out a larger loan.
There are four additional charges that accompany a loan outside of interest rates:
- Application and Packaging fees
- Prepayment Penalties
- Environmental studies
- Appraisal and survey fees
Our Final Word on Commercial Real Estate Loans
When applying for a government-backed real estate loan, the aim is to get the most liberal rates and terms.
Keep in mind that your business must occupy at least half of the desired property. If you meet the minimum borrower requirements, and are able to make a down payment of 10% (or more), remember to put that extra oomph into presentation.
Meeting the bare requirements is hardly the final step. Lenders will take you as seriously as your business plan and financial projections.
If you meet the minimum credit requirements, and your business will be occupying half of the commercial real estate property, consider speaking with an expert from SmartBiz.
The WiseSmallBusiness Team is full of industry experts and successful business owners willing to contribute important business articles.