Commercial property owners typically need mortgages when they want to construct buildings. After the buildings are constructed, they sometimes need additional financing to keep them fully leased and in good condition.
What Is a Commercial Real Estate Loan?
A commercial real estate loan is a mortgage secured on a commercial property, rather than a residential property.
They can be offered by banks, private lenders, insurance companies, pension funds, and even the U.S. Small Business Administration. Commercial real estate loans can create business partnerships, allow businesses to expand, and help owners avoid foreclosure. They are offered by a variety of banks and lenders willing to take on the risks inherent in commercial real estate development.
The incentive for lenders to make loans to commercial real estate owners is that their properties typically attract wealthy tenants and sometimes produce millions of dollars in revenue. Although the risk is high, the money-making incentives can be even higher.
Types of Commercial Real Estate Loans
Understanding different loan options and how they work can help real estate professionals and commercial building owners, as well as lenders, better navigate financing opportunities in times of need.
A bridge loan gives the borrower instant cash flow to finance a project’s immediate needs. Bridge loans are temporary, usually with a term of one year or so. They're normally obtained while the borrower is waiting for long-term financing to come through.
Bridge loans are usually offered by private lenders. They require excellent credit scores and proof of income. Borrowers must also show that they have enough cash to cover the property's existing expenses plus repayment of the new loan.
Real Estate Purchase Loans
Real estate purchase loans are similar to fixed-rate and adjustable-rate commercial mortgages. Borrowers must have excellent credit to qualify for this type of loan and significant savings in both business and personal bank accounts.
Lenders generally require that the commercial property be used as collateral. The loan’s interest rate is determined by the loan-to-value ratio.
Hard Money Loans
An owner must list the commercial property as collateral to qualify for a hard money loan, even if the loan is being used to save the property. Hard money loans are normally offered by private lenders who don’t have to meet the same standards as mainstream commercial lenders.
These loans are temporary, not long-term, and are only offered when time is of the essence, such as during a foreclosure proceeding. They carry a high risk of default and a correspondingly high-interest rate.
Joint Venture Financing
Private investors and investment firms usually offer joint venture loans. Typically, two partners in a group apply for the financing together. A joint venture loan is helpful when neither party in a partnership can obtain financing alone. It can create an arrangement in which all parties share equally in a property's profits and losses.
Unlike a true real estate partnership, the relationship between the loan applicants doesn't have to be official or extend beyond the financed property and the loan.
Under a participating mortgage, the lender is permitted to share in part of the revenue generated by a commercial property. The lender receives its monthly mortgage payment along with interest, as well as a share in the property’s rental income or sales proceeds.
Participating mortgages are popular among office and retail properties when well-known, financially stable tenants have signed long-term leases.
Bridge Loan: A short-term loan that gives a borrow instant cash flow for updating or maintaining commercial real estate
Real Estate Purchase Loan: A form of mortgage for buying commercial property in which the property is used as collateral
Hard Money Loan: Temporary loans with high interest rates used to save a property, such as one facing foreclosure
Joint Venture Financing: Loan given to a partnership in which both partners share in the risks, rewards, and profits from the commercial property
Participating Mortgage: Arrangement in which the lender receives a share of the profits from the commercial property, as well as interest on the loan
Choosing the Right Commercial Real Estate Loan
The right type of loan will depend on your financial history, the type of real estate you own, your goals for that property, and what you intend to use the loan to accomplish.
To find the right loan for your needs at terms you can afford, you may need to speak with multiple lenders. If you are a small business, you may want to look into financing through the Small Business Administration and its partners, which can offer better loan terms than many private lenders or banks.