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Financing Commercial Property: What You Need to Know

7/29/2016

financing-commercial-propertyCommercial property can be an attractive investment. Some sources estimate an annual return of six percent or more of the purchase price. Most types of commercial real estate (CRE) are in demand. Employers are looking for open and collaborative work environments along public transportation routes all in an effort to attract employees. Retailers are rethinking store layouts to create a different visitor experience in order to compete with their virtual competitors. Virtual retailers are in need of distribution centers and warehousing. Sweetening the pot, is the low interest rate environment. Although higher rates are predicted, global events like Brexit, conspire to keep interest rates low and stable for the foreseeable future. Prepare now for a smooth path to financing a commercial property investment with these best practices.

Once you've found the right property, it’s time to shop for financing. CRE financing is a different animal from private home mortgages. While a commercial loan from a bank is an obvious source for capital, CRE is attractive to non-bank lenders that rely on mortgage brokers to develop business. Working with a commercial mortgage broker expands the number of lenders available. It is common and often recommended to request financing from multiple lenders at the same time for at least two reasons:

1) The borrower can negotiate for the best arrangement among interested lenders and
2) The optimum CRE financing may be a combination of capital sources from different lenders

Assembling a financial package is an essential step to secure financing. Commercial property loans, particularly from banks, are often based on the value of the property and the income it will generate. Lenders expect to see a complete financial picture about the property, profit and loss statements and leasing documentation. Banks often require a sizable down payment of 20 percent or more. Non-bank lenders are more likely to approve a smaller investment for the borrower. In fact, some arrangements may allow for 100 percent of the purchase price to be financed. A mortgage specialty firm will work with the borrower to assemble the information and present it favorably to prospective lenders.

Be knowledgeable about lender valuation terms and measures and the specific metrics for the property in question. Loan-to-value ratio (LTV) is the loan amount divided by the property value. An acceptable LTV varies by the type of property and the lender, 80 percent LTV is generally the maximum allowed by banks. Non-bank lenders usually accept a higher LTV. Debt service coverage ratio (DSCR), is determined as net operating income divided by the annual debt service. A ratio of 1.20 and more is evidence that the property income is sufficient to pay expenses and the loan repayment. Ratios greater than 1 provide a cushion to the lender that if net operating income drops, cash flow remains sufficient to pay the debt. Acceptable levels of valuation will vary by the lending institution, the type of project (retail, hotel, multi-family, etc.), and the property. A firm expert in securing capital will know the valuation measures and ranges for each lender and project.

Finally, it’s important to understand the terms of the financing offer. They may vary widely from one lender to the next. For instance, banks may arrive at a repayment amount based on a 30-year mortgage, although the term of the loan may be as short as seven or ten years. At the end of that period, the entire balance of the loan may be due, necessitating refinancing. There may not be a guarantee to refinance with the same institution. A commercial mortgage firm will advise their client on the financing terms and present alternatives.

W Business Capital has the knowledge and networks to find attractive financing for commercial real estate. We have contacts with banks and non-bank lenders and will match your property to the lenders areas of expertise. Put our knowledge to work to uncover the capital requirements for your property. Contact us today at 208-297-7794.