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Commercial Real Estate Loan Guide

Dock Treece
Dock Treece

Learn how to qualify for a commercial real estate loan.

  • Most lenders require borrowers to have a credit score above 660 to qualify for a commercial real estate loan.
  • Commercial real estate loans can be term loans, SBA loans, lines of credit or portfolio loans.
  • Commercial real estate loans typically have five- to 10-year terms but are amortized over a term of up to 25 years, which may leave them with a large balloon payment at the end of the term.
  • This article is for business owners who need a commercial real estate loan to purchase a building or remodel an existing property for their business.

A commercial real estate loan is a type of financing that’s used to buy property for business purposes. To get a commercial loan, you’ll need to have good credit, make a down payment of 25% or more and plan to use a majority of the property being financed for your own business.

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What will you need a commercial real estate loan for?

While most people associate commercial real estate loans with investing in commercial real estate, the uses for these loans are actually more specific than that. Commercial real estate loans are designed to finance the purchase or improvement of property that is being used for your own business. To get a commercial loan, you need to use a majority of the property securing the loan for your own business purposes.

This means that you can still lease out part of the underlying property, but at least 51% of the property needs to be used for your business. If, on the other hand, you plan to lease out 50% or more of a space, then you need a separate type of loan, as this is considered more-speculative activity.

Here are some instances in which a commercial real estate loan may be appropriate:

  • Buying an office building to house your business
  • Expanding or relocating retail space for your store
  • Buying a warehouse to house your inventory
  • Buying, building or renovating a hotel you will operate yourself

Commercial real estate loan rates, terms and fees

Interest rateStarts around 3.5%
Down paymentAt least 25%
Loan termsFive to 10 years, with up to 25-year amortization
Debt-to-income requirementMinimum debt-service coverage ratio (DSCR) of 1.25
Minimum credit score660
Eligible property typesOffice, retail, industrial, hotels, restaurants, medical, entertainment and specialty properties

Key takeaway: Commercial real estate loans are intended for business owners who are buying, constructing or renovating a building to house or expand their own business.

Types of commercial real estate loans

There are several types of loans that can be used to finance commercial property. Each option has its own rates, terms, eligibility requirements and application process. So, before you apply, decide which type of loan is right for you. Here are some options to consider:

Loan typeWho it’s good for
Bank term loanBorrowers with established banking relationships
SBA loanBusiness owners who have already tried getting a loan at a traditional bank
Line of creditPeople who already own their property and want to borrow against their equity
Portfolio loanMultilocation businesses

Within the category of SBA loans, there are several loan products that can be used to buy, build or renovate commercial property. However, the SBA 504 Loan Program is specifically designed for this purpose. Funds provided through the 7(a) program can technically be used to buy or improve real estate, but the program isn’t ideal for financing real estate.

Also, within the area of portfolio loans, it’s important to note that these loans are often used by landlords who own a number of properties that they are leasing to tenants. Lenders consider this to be more-speculative activity, with different rates, terms and eligibility criteria. If you have a business that owns multiple facilities that you use for your own purposes, make this clear before exploring portfolio loan options with a lender.

Key takeaway: There are several loan types that can be used to purchase commercial real estate, such as bank term loans, SBA loans, lines of credit and portfolio loans.

Choosing a commercial real estate lender

When you’re trying to get a commercial real estate loan, there are many different loans and lenders to choose from, so it’s important to find a lender that not only offers the type of loan you want but also has rates you can afford and qualification requirements you can meet.

Here are some things to consider when picking a lender:

  • Available loan options
  • Origination fees
  • Starting interest rates
  • Documentation requirements
  • Time-in-business requirements
  • Prepayment penalties
  • Personal-guarantee requirements
  • Fast-funding or bad-credit options (if you need them)
  • Better Business Bureau ratings and customer complaints

Key takeaway: There are several factors to consider when selecting a lender. In addition to the type of loan you need, you should examine rates, fees, qualification requirements and user ratings.

Commercial real estate loan requirements

Qualifying for a commercial real estate loan is very different from getting a home loan. Because you’re going to be using the property for business purposes – and paying back the loan with business revenue – lenders want to make sure that your business can cover the loan payments.

The requirements for securing a loan fall into three main groups:

1. Security

Before approving a loan, your lender will want to know that the loan is properly secured by the property you’re borrowing against. This means that you’ll generally need to have at least 25% to 30% equity in the property; if you’re buying, you’ll need a down payment of 25% or more to qualify.

In addition, your lender will want to make sure you have adequate property insurance to protect against damage to the property (their collateral). The lender will also run title work on the property and check the deed to make sure there are no outstanding liens or other claims against the property. [Read related article: What Is a Lien?]

2. Income

When processing your application, lenders want to see that you have plenty of income relative to your expenses so they can be confident that you can make your loan payments each month. One metric lenders use when making this determination is your debt-service coverage ratio (DSCR). The minimum DSCR varies based on the property you’re borrowing against, but most lenders want to see a DSCR of 1.25 or higher. [Read related article: 8 Factors That Keep You From Getting a Small Business Loan]

To establish your income with your lender, you’ll need to provide two years of tax returns – usually business as well as personal, because you’ll be borrowing the money for business purposes but will also need to sign a personal guarantee. You’ll also need to provide your business’s organization documents and operating agreement, as well as personal documentation, such as a W-9 and a copy of your birth certificate or passport.

3. Credit

If you’re getting a loan for business property, your lender will likely want to check your business credit score. However, in most cases, lenders will also want you to provide a personal guarantee, so they’ll want to check your personal credit as well.

Minimum credit scores vary by lender but are typically between 660 and 680 for most conventional loans.

In addition to checking your credit, lenders will want to know how long you have been in business, to assess your credit risk. To qualify for a commercial loan, you usually have to have been in business for at least one or two years. That way, the lender can be confident in your business’s revenue, which will be the primary source of repayment for your loan. [Read related article: How to Build Business Credit]

Key takeaway: Commercial real estate loans are more difficult and expensive to obtain than consumer mortgage loans, and lenders require you to sign a personal guarantee.

How are commercial property loans different from consumer loans?

Commercial real estate loans are very different from individual (consumer) loans. These loans have very different requirements for collateralization and underwriting, as well as different rates, terms and other characteristics.

For one thing, there are far fewer programs for securitizing commercial loans, compared with personal loans. This means that lenders typically have to hold many of these loans after they’re issued, rather than selling them off to investors, who assume the risk of loss if the borrower doesn’t repay the loan.

As a result, lenders are far more risk averse when issuing commercial loans. The minimum credit scores are usually higher, as are down payments. Mortgage insurance also isn’t an option for commercial loans, so income requirements and interest rates are usually higher.

In addition, commercial loans typically do not last as long as personal loans. Unlike home loans, which are commonly issued for terms of up to 30 years, commercial real estate loans often last only five or 10 years. However, loan amortizations can often be longer – up to 25 years is typical – leaving borrowers with balloon payments that they either have to pay off or refinance at the end of their loan.

Key takeaway: Commercial loans have shorter terms than what they are amortized for, which means that you’ll either need to refinance the loan at the end of the term or make a balloon payment.

Commercial real estate loan FAQs

Commercial loans are far more complex than conventional home loans, and there are a lot of details that confuse small business owners. To help, we’ve tried to clear up some of the biggest sources of confusion for borrowers. Here are the answers to some of the most common questions:

What’s the minimum down payment for a commercial real estate loan?

The minimum down payment required for most commercial loans is typically 25% of the property purchase price (not including closing costs). However, down payments may be lower – as low as 15% if you use mezzanine financing in addition to a property loan, or 10% if you use an SBA loan.

How long do commercial real estate loans last?

Commercial real estate loans typically do not last longer than five or 10 years. However, loan amortizations can often be much longer – up to 25 years. While this means that loan payments are much lower than if they had to be fully paid off in five or 10 years, it also means the borrowers will be left with a balance that’s due at the end of their loan term, at which time borrowers will have to refinance that balance or pay it off in a lump sum.

Can you use an SBA 7(a) loan to buy real estate?

Technically, funds issued through the SBA’s 7(a) program can be used for real estate (to buy, build, renovate or expand). However, these loans are not designed for that purpose – for example, they aren’t collateralized by real estate. As a result, these loans are typically more expensive than other loan options, including SBA 504 loans.

What credit score is needed for an SBA loan?

Typically, qualifying for an SBA loan requires a minimum credit score of 660. For SBA 504 loans, the minimum is usually 680.

Another thing to be aware of with SBA loans is that the Small Business Administration is not intended to be a first-choice lender but rather a lender of last resort. Before applying for a loan from the SBA, you should seek financing from other lenders.

Key takeaway: If you are unable to qualify for a bank term loan, you may be able to apply for an SBA loan. Even though it may have a lower down-payment requirement, the SBA is a last-resort lender.

Image Credit: Comstock / Getty Images
Dock Treece
Dock Treece
Contributing Writer
Dock David Treece is a contributor who has written extensively about business finance, including SBA loans and alternative lending. He previously worked as a financial advisor and registered investment advisor, as well as served on the FINRA Small Firm Advisory Board. He previously held FINRA Series 7, 24, 27, and 66 licenses.