Everything you need to know about borrowing money to buy a commercial property.
If you’re looking to buy a commercial property, there’s a good chance you’ll need to borrow a portion of the purchase price through a commercial property loan. But before you can buy those perfect new business premises you’ve got your eye on, you should be aware that commercial property loans are a very different beast to residential property loans. Read on to find out how you can choose the right commercial property loan for your business.
In this guide...
What is a commercial property loan?
A commercial property loan provides the finance you need to purchase a commercial property. The amount you borrow earns interest at a fixed or variable rate and will need to be repaid in full before the completion of the loan term.
Lenders can offer funding to finance the purchase of a wide range of commercial properties, such as:
- Office spaces
- Retail outlets
- Shopping centres
- Industrial sites
- Residential unit blocks
- Accommodation (hotels, motels, resorts, caravan parks etc.)
- Restaurants and pubs
- Childcare centres
The commercial property you buy will most likely be one of the most important assets your business owns, so it’s important to choose the right loan to finance your purchase.
The purpose of a commercial property loan
Before we can look into the nitty-gritty of comparing loans, it’s important to first think about the purpose of your loan. This is because the purpose of your loan will affect how lenders assess your application for finance:
- Buying commercial property as an investment. If you’re looking to invest in commercial property and then lease it out to a third party, lenders view you as a low-risk borrower (when compared to an owner-occupier) and will generally offer a simpler application process and better interest rates.
- Buying commercial property as an owner-occupier. If you want to buy a commercial property that will then act as the premises for your own business, lenders classify you as posing a higher level of risk. As a result, you’ll need to satisfy stricter lending criteria and generally receive a higher interest rate.
Commercial loans you can compare today
What are the features of a commercial property loan?
Although products differ between lenders, a commercial property loan will generally include the following features:
- Loan term. Many lenders impose a maximum loan term of 15 or 20 years on commercial property loans, but there are loans available with terms of up to 25 years.
- Maximum loan to value ratio (LVR). The maximum LVR you can access varies depending on your lender’s risk tolerance and the amount you wish to borrow. Most lenders offer maximum LVRs of between 60% and 70% on commercial property loans. However, a higher LVR of up to 80% may be available from specific lenders, depending on the size of your loan.
- Interest rate. Variable and fixed interest rates are available, with fixed rates able to be locked in for up to five years.
- Repayment options. Just like a residential home loan, commercial property loans are commonly available with principal and interest repayments, but investors have the option of locking in interest-only repayments for up to five years. If you take out a loan with a variable rate, many lenders will also offer the flexibility of additional repayments without penalty.
- Redraw facility. If you’ve made additional repayments ahead of schedule, you will typically be able to access those funds through a loan’s redraw facility.
- Low-doc loans available. While a full-doc loan (where you provide full financial statements) will enable you to qualify for a higher LVR, low-doc commercial property loans are available for borrowers who can’t provide full proof of income.
How are commercial property loans different to residential property loans?
Australian lenders view commercial property loans as a riskier investment than residential property, largely due to the fact that vacancy periods can be extensive. As a result, commercial property loans tend to have a few key differences when compared to their residential counterparts. Those differences include:
- Higher interest rates. Compare commercial property loan interest rates with current home loan rates to get an idea of how rates can differ.
- Lower maximum LVRs. While it’s possible to borrow 90% or even 95% LVR on a residential property loan, on commercial property loans many lenders offer a maximum LVR of 70%. This means you will need to have a larger deposit saved in order to qualify for a loan.
- Higher fees. Make sure you’re aware of all upfront and ongoing fees that apply to a loan before deciding whether it’s right for you.
What affects the interest rate on a commercial property loan?
Each lender has its own tolerance for risk and its own lending policies. Combined with the fact that the type of commercial property finance needed can vary substantially from one borrower to the next, this means that many of the features of a commercial property loan can be up for negotiation.
This is clearly demonstrated by commercial property loan interest rates. Unlike residential home loan interest rates, which are widely publicised on lenders’ websites and in marketing material, commercial property loan rates are rarely published anywhere.
Why? Because there are several factors that influence the rate which will apply to your loan, including:
- The location of the commercial property
- The performance of the local property market
- The location of the property offered as security for the loan
- Your financial situation and ability to repay the money you borrow
- The LVR (in other words, the size of the deposit you have saved)
- The length of time remaining on the lease and the quality of the tenants in place
- Your assets and liabilities
- Your experience as a commercial property owner
When you apply for a commercial property loan, the lender will consider all of the above factors when determining whether to approve you for a loan, and when calculating the interest rate that will apply.
Security for a commercial property loan
The next factor to consider is the property you will offer as security for your loan. This can have a big impact on the amount a lender will allow you to borrow as different security properties come with different risks attached.
Standard commercial properties are usually an ideal type of security for your loan. These are properties that have a broad appeal to buyers, are in a good location and are zoned appropriately for their desired use. Standard properties include:
- Retail spaces
- Residential properties (such as a house, a unit or a block of units)
However, depending on your circumstances you may have to offer a specialised commercial property as security. These include:
- Restaurants and pubs
- Hotels, motels, caravan parks and other accommodation properties
- Childcare centres
- Private schools
- Aged care facilities
- Shopping centres
If you list a specialised property as security for your loan, your lender will need to perform a detailed valuation of the property and also assess the risks associated with that property. As a result, you’ll typically only be able to qualify for a much lower LVR.
Offering your own home as collateral may be an option to help you access a higher LVR and a better interest rate. However, this approach does increase your exposure to risk, so seek expert advice before determining whether it’s the right option for you.
Getting your commercial property valued
When you apply for a commercial property loan, the property you want to purchase will need to be professionally valued. A professional valuation is carried out by a qualified valuer and is an essential step to allow you to obtain the finance you need. Not only does it help you calculate whether the price you are paying is fair, but it also allows the lender to work out whether you can be expected to afford your loan repayments.
However, because a commercial property valuation is much more involved than the valuation of a residential property, the process costs more. You’ll need to factor this additional cost into your calculations when working out the total cost of a loan.
Check out our guide to commercial property valuations for more details on how this process works.
How to compare commercial property loans
There are several factors you should consider when choosing a commercial property loan, including:
- The interest rate. The rate you receive can make a huge difference to the total cost of a loan, and rates vary greatly depending on what represents an acceptable level of risk to each lender. Compare rates between lenders to look for the best available deal.
- Fees. It’s also essential to be aware of all fees that apply to a loan. In addition to upfront application fees and ongoing monthly or annual fees, other fees may apply in specific circumstances, such as if you make an additional repayment or access the loan’s redraw facility.
- Maximum LVR. Find out how much each lender is willing to let you borrow to purchase a particular commercial property. For example, let’s say you’re buying a commercial property valued at $750,000. Lender A will offer a maximum LVR of 70% while Lender B will only let you borrow 60% of the purchase price. You’ll only need a deposit of $225,000 (30% of the purchase price) if you use lender A, but that figure rises to $300,000 if you use Lender B.
- Loan limits. How much is the lender willing to let you borrow to buy a commercial property? Minimum and maximum limits apply, with many lenders offering loans of between $200,000 and $5 million. Loans of $5 million and above are also offered but may have specialist assessment criteria, with lenders weighing up the merits of each application on a case-by-case basis.
- Repayment schedule. Calculate your ongoing repayment amount on any proposed loan agreement – will you realistically be able to afford your repayments? Are you required to make principal and interest repayments from day one, or can you choose interest-only repayments for an initial period?
- Other features. Finally, check the full list of loan features to determine whether it has the flexibility to be tailored to your needs. For example, can you make additional repayments without incurring any penalties? Can those additional repayments be accessed through a redraw facility if you have a cash flow shortage?
By carefully considering the features and conditions of a range of commercial property loans, you’ll be able to find the best finance solution for your needs.
Why should I use a mortgage broker?
Commercial property lending is far more complex than residential home loan lending, and making sense of the loan options and features available can be a confusing task. Different lenders also specialise in offering loans to suit different types of commercial property buyers – for example, while one lender might specialise in offering finance for start-up businesses, another may be able to offer better deals to a commercial property investor or a developer.
This is when a mortgage broker is your best friend. An experienced broker can use their knowledge of commercial property lending to help you decide which lender is most likely to offer a suitable finance solution. He or she can then assess your current financial situation and your borrowing requirements before helping you compare a wide variety of loans to find one that matches your unique needs.
Why should I use a mortgage broker?
Commercial property lending is a complex area, and the information and documentation you’ll need to supply when applying for a loan vary depending on the lender you select, the type of property you want to buy and the amount you need to borrow.
However, as a general guide you will need to supply:
- Personal and company information. You’ll need to provide your name, contact details and proof of ID. Other information may be required for different applications – for example, companies will need to provide their ABN and full contact information.
- Financial details. You’ll need to provide details of your assets and liabilities, including the size of the deposit you have saved. You’ll also need to provide cash flow projections so the lender can calculate your ability to meet repayments.
- Property details. Next, the lender will need to know details of the property you want to purchase, such as its location and features. A professional valuation will determine how much the property is worth, while if you’re buying the property as an investment, you’ll also need to supply details of the current lease agreement and the quality of the existing tenants.
- Other information. The lender may request a wide range of other details depending on the size of the loan you want and the property you are purchasing. For example, the lender may want to see evidence of your track record running a similar business before providing the finance you need to purchase a commercial property.
Your mortgage broker can help you prepare an application that addresses all the necessary criteria and gives you the best chance of approval. If your application is refused or approval is delayed, a broker can also help you work out what you can do to improve your chances of accessing the finance you need.