In the world of business, the right location can make all the difference. When business owners need to purchase, refinance, or renovate commercial properties, a commercial real estate loan (CRE) can be an excellent option. The term “commercial” refers to property that is used for business, such as offices, retail storefronts, warehouses, apartment complexes, and more.
CRE loans are typically available through banks and independent lenders, but you can also get capital from private investors and other sources, including lenders that partner with the U.S. Small Business Administration (SBA).
Whether you’re looking for a small commercial real estate loan or more substantial funding, it’s important to understand each option and how they differ. That way, you choose a loan that aligns best with your business needs.
Key Points
• Commercial real estate loans provide substantial capital at competitive rates and flexible terms, enabling businesses to expand operations.
• Commercial real estate loans are loans for commercial properties, while residential loans are for personal homes. Each has different terms and approval processes.
• Various types of commercial property loans are available, including construction loans, SBA loans, bridge loans, and hard money loans. Each has specific purposes and eligibility requirements.
• Applying for a commercial property loan involves careful preparation, including determining the loan’s purpose, gathering documents, and researching lenders.
• Alternative lending options include restaurant loans, franchise financing, business lines of credit, and more.
Why Use a Commercial Real Estate Loan?
A commercial real estate loan is a powerful tool for businesses looking to buy, develop, or renovate properties. Commercial real estate loans offer substantial capital at competitive rates and flexible repayment terms, helping you undertake large projects without draining your reserves. By using this type of small business financing, you can expand your business’s operations, increase revenue, and strengthen your market presence.
Commercial Real Estate Loans Pros and Cons
| CRE Loan Type | Pro | Con |
|---|---|---|
| Commercial mortgage | May offer longer loan terms and higher borrowing amounts | May be harder to get approved if you have a startup or a low credit rating |
| Construction loan | Flexible short- and long-term options; may better suit the needs and timeline of a construction project | May require a high down payment |
| Land development loan | May offer higher loan amounts to cover costs associated with developing land and improving its value | May be hard to qualify for if you don’t have a strong credit and/or business history |
| SBA 7(a) loan | May offer loans with lower interest rates than other options | Can be difficult to qualify for if you don’t have good credit or strong sales |
| SBA 504 loan | Offers long-term fixed-rate financing likely to have favorable APRs | Funds can only be used for specific approved purposes |
| Bridge loan | May offer quicker access to funding compared to long-term loans | Interest rates can be high |
| Mini-perm loans | Can provide temporary financial support to new businesses that are still building a customer base and business credit | May carry higher interest rates than other loans |
Commercial vs. Residential Real Estate Loans
There are some similarities between loans for commercial real estate and residential mortgages. But there are also key differences to be aware of before you commit to a loan for commercial property.
Commercial loans are used to purchase, develop, or renovate properties intended for business use, such as offices, retail centers, and industrial buildings. Compared to residential mortgages, CRE loans typically have shorter terms, higher interest rates, and larger down payment requirements. The approval process for commercial loans also tends to be more intensive, often requiring detailed business plans, financial statements, and proof of income from the property.
Residential loans are used to finance personal homes and usually come with longer terms, lower interest rates, and smaller down payments. Residential loans primarily focus on the borrower’s credit score and personal income.
How Do Commercial Real Estate Loans Work?
Loans for commercial real estate are among the many types of loans available to small businesses and are specifically meant to help business owners buy or renovate property. A commercial real estate loan is offered only to a business entity — an individual or group of individuals who form an organization to conduct a certain type of business and related activities. These entities can include:
• S- and C-Corporations
• Funds
• Trusts
• Limited partnership
• Limited liability companies (LLCs)
Typically, the property itself acts as collateral for the loan (which may then be called a non-recourse loan). However, if a business doesn’t have strong credit, a commercial real estate lender may require the owners or principals in the business to guarantee the loan. This provides the lender with an extra layer of security if the business entity itself can’t repay the loan.
Eligibility Requirements
A few eligibility requirements that lenders typically look for are:
• Credit score: Lenders often require a strong personal and business credit history to assess the borrower’s creditworthiness and ability to repay the loan. A higher credit score can lead to better terms and lower interest rates on CRE loans.
• Business finances: Detailed financial statements, including profit and loss (P&L) reports, balance sheets, and cash flow statements, help lenders evaluate the business’s financial health and stability.
• Collateral: Similar to a residential mortgage, a commercial mortgage is secured by the property itself. This reduces the lender’s risk and can influence the loan terms and interest rates offered.
• Business plan: A comprehensive plan detailing how the property will be used to generate income is often required. This helps lenders understand the potential for success and the borrower’s vision for the property.
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Loan Amounts
Loan amounts can vary depending on a few key factors:
• Type of commercial real estate loan
• Type of lender
• Credit rating
• Loan-to-value (LTV) ratio
• Down payment amount
• If the property is owner-occupied
The LTV ratio is particularly important because it assesses the value of the loan against the value of the property. To calculate LTV, lenders generally divide the loan amount by the property’s appraisal value. The average LTV range for commercial real estate loans is between 65% and 80%.
Interest Rates and Fees
It’s common for commercial real estate loans to have higher interest rates than a home mortgage, but they typically remain lower than other business financing options.
Additional fees may include:
• Origination fees
• Application fees
• Closing costs
• Appraisal fees
• Prepayment penalties, if applicable
Loan Terms
Commercial properties can be a significant investment, and financing terms vary widely, ranging from a year for a short-term loan to 25 years with an SBA loan.
A key factor in loan terms is amortization, which typically exceeds the loan’s length, leading to a large final payment, or balloon payment, at the end.
For example, a five-year loan with a 30-year amortization period requires smaller installment payments but ends with a substantial balloon payment. If you’re unable to make this payment, securing additional financing may be necessary.
Common Types of Commercial Real Estate Loans
The type of commercial real estate financing you might seek depends on your business needs and eligibility. The different types may have different rates, terms, conditions, and purposes, depending on the lender. Here’s a look at some of the most common types of commercial real estate loans.
Commercial Mortgage
Commercial real estate mortgages are used to invest in properties for business purposes, such as retail, warehouse, office space, or storage. These mortgages are offered by traditional banks, government-backed lenders, life insurance companies, and hard money lenders.
A commercial mortgage can be beneficial for businesses needing a dedicated space for operations or inventory storage, and it can also build equity for future use. Something to keep in mind: These loans often have longer terms and involve larger amounts, making them riskier for lenders. As a result, the approval process can be time-consuming.
SBA 7(a) Loans
SBA 7(a) loans, offered by private commercial lenders who partner with the SBA, provide small business owners with flexible funds (up to $5 million) for various purposes, including non-real estate needs.
Qualifying for an SBA 7(a) loan can be challenging, requiring good personal credit, solid business revenues, and at least two years in business. Down payments typically start around 10% but can be higher depending on the lender’s specific requirements.
SBA 504 Loans
SBA 504 loans provide long-term, fixed-rate financing for renovating commercial real estate or purchasing equipment to help smaller, less-established businesses grow. They’re partially funded by certified development companies (CDCs), which are community-based nonprofits that help economic growth.
Businesses might choose 504 loans for their lower interest rates, longer terms, and lower down payments (around 10%). But these loans are meant for specific purchases, and businesses may be required to show proof of how funding was used. They cannot be used for working capital, inventory, or debt consolidation.
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Bridge Loans
Bridge business loans are short-term commercial real estate loans with repayment terms ranging from six months to three years. They are used when a business cannot obtain a long-term loan, needs to refinance, or is waiting for other long-term financing.
Commercial bridge loans are ideal for covering small renovation costs or filling financing gaps while waiting for approval from another loan. The application process is typically faster than traditional loans. Note that bridge loans can be more expensive, so borrowers must ensure they can manage the higher costs before committing.
Construction Loans
Construction loans are used for building new structures or renovating existing commercial properties. They can be short- or long-term and are typically offered by banks, credit unions, or private investors through hard money loans.
These loans give borrowers flexibility with repayment and terms, covering costs for materials, labor, and other construction-related expenses. Because they are higher risk, lenders often require a down payment ranging from 10% to 30%, depending on the overall loan amount.
Land Development Loans
Land loans are commercial real estate loans used to purchase undeveloped land for future development, construction, or sale.
Business owners might choose a land loan if they need funding specifically for raw land, including making infrastructure improvements or creating subdivisions. Lenders often have requirements related to zoning, surveying, and land-use restrictions, and borrowing costs for less developed land may be higher than for improved land.
Mini-Perm Loans
Mini-perm loans are short term (three to five years) loans to help pay off income-producing construction or commercial properties or acquire investment properties until longer-term financing is available.
These loans are ideal for higher-risk projects when traditional financing isn’t initially an option. Mini-perm loans help establish payment history, which may also help to secure long-term business loans in the future. Because it’s riskier to lend to less-established businesses, lenders may charge higher interest rates. These loans assume the property will be profitable by maturity, so if projects exceed budgets or timelines, repayment can become challenging.
Hard Money Loans
Hard money loans are short-term commercial real estate loans based on property value rather than the borrower’s credit rating. The property acts as collateral, making these loans quicker and easier to acquire, which can be helpful for those with lower credit ratings or urgent funding needs.
These loans are usually offered by private lenders and have higher down payments and interest rates than traditional loans, with APRs typically ranging from 10% to 18%. Designed as short-term solutions, the high interest rates act as an incentive to pay back the loans as quickly as possible.
How to Apply for a Commercial Real Estate Loan
Applying for a commercial real estate loan requires careful preparation. You’ll want to look at various factors ranging from what the loan will be used for to how your eligibility will be assessed. Follow these steps to ensure you meet commercial property loan requirements:
1. Determine What the Loan Is for
You’ve decided to get a commercial loan, but what exactly is your commercial real estate loan best for? This is an important question since the answer may change the type of loan and lender you seek. Here are a few factors to consider:
• Is the loan for renovations?
• Are you planning to build a new structure?
• If you’re making a purchase, what type of property are you purchasing: land for development, retail space, offices, storage?
• Do you need to pay for labor and materials?
• What is your budget?
• Do you have other sources of funding?
2. Choose the Type of Commercial Real Estate Loan
After you determine what you’ll use the commercial loan for, you’ll be better prepared to research and choose a commercial real estate loan type. Some lenders offer specific types of commercial loans, which may limit how you can use the funds. A few examples of commercial loans are:
• Construction loans
• Commercial mortgage loans
• Land development loans
• Refinance loans
• Hard money loans
• SBA loans
3. Assess your qualifications
Each lender will have different eligibility requirements that may include:
• Strong personal and business credit scores
• A debt-service coverage ratio (DSCR) of 1 or higher
• Down payment
• A LTV of 65% to 80%
• Healthy business revenue
• Approved property type for the type of loan you’re applying for
4. Find a Lender
Use the information you’ve gathered about what you need the commercial loan for, what type of loan best aligns with your needs, and what commercial loan you may qualify for to search for lenders. Potential lenders can include banks, credit unions, and online lenders.
5. Prepare Your Loan Application
Commercial real estate loans typically require significant documentation to show lenders you’re a good candidate for the loan. While hard money loans may be faster to get and require less documentation, in general, it will help to have the following ready when you apply:
• Up to five years of tax returns
• Business financial records for up to five years or since your business was established
• Credit reports for business and all owners/partners
• Business plan (to show the property’s intended use)
• Identifying information (which may include citizenship)
• Third-party property appraisal
• Historical income and expenses for the property
Depending on the lender and loan type, the application and approval process can take some time, so it’s important to be patient.
Alternatives to Commercial Real Estate Loans
If a commercial real estate loan doesn’t seem like it’s the right fit for your business, here are some other types of financing you may want to consider.
• Restaurant loans: These loans help cover costs associated with starting or expanding a restaurant business.
• Franchise financing: A franchising loan can help with costs involved with opening a franchise location. There are franchise companies that specialize in these types of loans.
• Merchant cash advance (MCA): A merchant cash advance gives borrowers cash up front with an agreement that the lender will take repayment as a percentage of the borrower’s future credit card sales.
• Invoice factoring: Invoice factoring gives borrowers cash up front in exchange for unpaid customer invoices. The factoring company (lender) is then responsible for collecting on unpaid invoices.
• Business line of credit: A business line of credit is a common short-term loan option where borrowers receive a set credit limit and can borrow up to that maximum, paying interest only on the money withdrawn.
• Personal business loans: In some cases, you may be able to use a personal loan to buy or renovate commercial real estate or make other business-related purchases.
The Takeaway
A commercial real estate loan can help finance the acquisition, development, and construction of a commercial property. This type of loan is available through several sources, including traditional banks, online lenders, and private investors, offering diverse options to meet your business needs.
If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.
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