Types of commercial real estate loans

There are several categories of commercial real estate financing, but we’ll be focusing on the three most pertinent to small-business owners: traditional commercial mortgages, SBA 7(a) loans, and CDC/SBA 504 loans. As mentioned before, all three require on-premise occupancy by at least 51% of the business, repayment terms of around 5 to 20 years, and solid business plans.

Traditional commercial mortgage loans

Unlike the other two types of loans to be covered here, traditional commercial mortgages are not backed by the federal government—they’re loans made strictly between the borrower and the bank. As such, these mortgages have no mandated cap; it’s up to the lender to decide the maximum loan amount.

Typically, that maximum amount is determined to be between 65% to 85% of the real estate’s loan-to-value (LTV) comparison, with a down payment covering 15% to 35% of the fair market value of the property. Interest rates on traditional commercial loans range from 4.75% to 6.75%, and monthly payments are amortized over the duration of the loan’s term.

While traditional commercial mortgage loans require a higher personal credit score (700 or higher) than the government-backed options, they also call for fewer years in business (usually one, as opposed to three or more). Since the government isn’t sharing in the risk, banks and commercial lenders hold these types of loans to a higher qualification standard. If your business is already well established and profitable with a solid credit score, a traditional commercial mortgage would be your best bet.

SBA 7(a) loan for commercial real estate

Should you be turned down for a traditional commercial mortgage, a government-backed SBA (Small Business Administration) loan would be a viable next option—in fact, being rejected for a standard bank loan is one of the perquisites for an SBA loan. The interest rates are typically lower with SBA loans, as are the credit score requirements, but the qualification guidelines are stricter.

The 7(a) is the most common SBA loan, and it has the widest range of applications. The majority of SBA 7(a) loans are given to established businesses to shore up their operating capital, but they can also be used by newer enterprises for purchasing commercial real estate. The maximum amount for this kind of loan ranges as high as 85% to 90% of the purchase price, up to $5 million, with a down payment equaling 10% to 15%. Interest rates are within the 5% to 8.5% range.

An SBA 7(a) loan requires a credit score of 680 or higher and three years of business history, and the repayment term is typically 10 to 25 years. Also note that these loans aren’t made by the Small Business Administration itself but by SBA-approved lenders, which can be traditional banks, credit unions, or private lenders. With potential borrowers following the SBA’s guidelines, those lenders have more faith that loans made to “riskier” parties will be repaid and are therefore more inclined to grant them.

CDC/SBA 504 loan for commercial real estate

Designed specifically for the purchase of commercial real estate properties, a CDC/SBA 504 is like two loans in one: 50% of the money comes from a bank or lender, 40% from a local community development corporation (CDC), and the remaining 10% being the borrower’s down payment. There is no maximum amount you can borrow on a CDC/SBA 504 loan.

The CDC/SBA 504, like all Small Business Administration loans, is backed by the government and requires a 680 or higher credit score but differs in that the borrower also must meet the local CDC’s public policy and job creation goals. The SBA doesn’t monitor the rates, fees, and terms of the lender’s portion of the loan, but it does establish the CDC’s, setting 10-year loans at 4.85% fixed interest or 20-year loans at 5.07% fixed interest.

Interest rates for CDC/SBA 504 loans fall between 3.5% and 5%, with a 1.5% CDC processing fee. Since this SBA loan was crafted to spur local community development and employment, a qualifying company is also expected to retain or create one job for every $65,000 borrowed. If your business is projected to grow quickly but you don’t have much down payment cash on hand for a new real estate space, a CDC/SBA 504 loan might be a better option than a more broadly defined loan.

What are the basic requirements for commercial real estate loans?

Lenders look at five factors: your personal credit score (which should be at least 600), your net worth (the difference between your liabilities and your assets), your liquidity (how much liquid cash you have on hand), your business experience (as it applies to the real estate you’re financing), and your income (both your personal and commercial property portfolios).

How long are the terms of commercial real estate loans?

Commercial real estate loan repayment terms are shorter than those of the average 30-year residential loan. In most cases, longer repayment schedules result in higher interest rates, but shorter terms with smaller payments could leave you stuck with a balloon payment (a disproportionately large lump sum of money required to complete repayment) at the end of the term.

How much is the down payment on a commercial real estate loan?

For a traditional commercial mortgage, the minimum down payment varies between 15% and 35% of the overall purchase price, depending on the lender. With SBA 7(a) and CDC/SBA 504 loans, the range is more standardized, falling between 10% and 15% of the purchase price.