3 Keys To Commercial Real Estate Financing For Small Businesses
There are a ton of items that go into getting a commercial real estate loan approved for a small business. Complicated items from valuations to debt ratios. But, most of those items take care of themselves if you focus on and manage just three key important criteria in ensuring that your business gets the commercial property it needs to grow and prosper. So, if we ignore some of the obvious underwriting issues in commercial lending like your credit history, property use or even if the property will be used by your business (owner-occupied) or for your business (rental property) - the three following things are what really matters in getting your loan approved: 3 Keys To A Commercial Property Loan 1) Price - Price matters. It matters a lot. It matters in terms of what you can afford, what you can buy, where you can buy and the loan that you can get approve. Most borrowers looking to buy property for their small business tend to start looking at what they need and then try to find property that meets all those needs. Which is OK if your resources are limitless. However, most small businesses do not have unlimited wealth and tend to find themselves with more needs from their potential real estate then the wherewithal to satisfy those needs - meaning that most cannot afford to buy property that meets 100% of their company's needs. Thus, they will have to settle at some point. On the other side, we say that even before you think about your specific needs and what you have to settle on, you should first think about price. And, your price is determined not by what you think you can afford but what a lender thinks you can afford and what they will loan against. And further, you can determine what loan amount you can qualify for and eventually what price of property you can purchase by simply looking at your past revenues. All lenders will take your anticipated loan payment and compare it against your past revenue numbers. If your business could have covered the loan payments over say the last three, four, five or more years (in the past), then it is reasonable (in their eyes) that your business will be able to do so going forward. Thus, let's say that your business earned in past revenue $5,000 per month (money that your business has left over to cover loan payments) for the last three years. So, would $5,000 per month cover a $1 million loan? No, in fact, a $1 million loan at 6% for 15 years on commercial property would result in a monthly payment of around $8,500. For $5,000 a month, your small business could afford a commercial loan of around $600,000. Now, with this amount in mind - knowing what you can afford - you can then start looking for property that begins to meet your business's needs and work your way up based on your price. This is much better than looking for property that might meet all your needs then have to come down off that high to meet your price. In order to find what your particular business can afford - its price - look at your past cash flow to determine what your monthly payment could be then use an online payment calculator to either back into your maximum purchase price based on relevant rates and terms or use what if scenarios to get to your price point. 2) Down Payment - Now that you have your purchase price, you also need to understand the major expenses a commercial loan will cost you. Not only will you have to pay your closing costs - costs for appraisals, reports, taxes and insurance - but, you will be required to put at least (at the minimum) 20% of the value of the property down as a an equity payment. The good news here is that you can use this 20% that you have to put down to increase your purchase price as the lender will only fund 80% of that property value. Thus, if you can afford a $600,000 loan and your lender will fund that amount - and that amount is only 80% of the value of the property - then you can increase your price by the 20% you have to put down anyways. Thus, while you can afford a $600,000 loan, your total purchase price could increase to $750,000. The bad news is that not only will you have to pay anywhere from 1% to 5% of your loan amount in closing costs - in our example some $6,000 up to $30,000 - but you will also have to come up with a down payment of $150,000 (in our example) - and this amount can not be financed, not with this deal or from any other source. Even if you kept your purchase price at $600,000, you still would have to come up with $120,000 as a down payment leaving your loan amount at $480,000. Many small businesses miss out on buying real estate for their companies (especially in great value markets like we have now) because they do not have and cannot get the required money down. But, 20% down is the minimum these days and very few lenders (if any) will make an exception to it. 3) Loan Term - The loan term you get - or that you fight for - can be the difference in both getting your loan approved as well as in the amount of interest your loan will cost you. The longer the loan term, the more affordable the loan payments as the loan's principal is spread out over a longer period. And, a more affordable (smaller) payment means that you have a better chance of getting your loan request approved. Example: A $600,000 loan at 6% would have a payment of around $5,000 per month. Increase that term to say 20 years, and the payment drops to around $4,300 per month. Thus, your business could either have a much lower monthly payment or would be able to increase the price of the property it intends to purchase. Thus, the power of the loan's term. However, on the other hand, there is always a cost. In this case it is the cost of interest. The longer the loan's term, the more interest you will pay on the loan overall. Example: A $600,000 loan at 6% for the shorter term of 15 years would result in $311,000 interest for the life of the loan. That same loan at 20 years (5 more years of payments), its overall interest would rise to $432,000 - a difference of $121,000 just in interest. Quite the difference! Thus, you have to set your term - fight for the term you want - to find a balance between what you can afford and the amount of interest that loan will cost your business because no matter how much your business pays in interest, the business still has to make up for that amount in either revenue or cost savings. If it doesn't make up for that amount, it will lose money and that is not what you are in business to do. Conclusion This is a great market for small businesses to buy commercial property. Not only are interest rates low - some of the lowest in our history - but property values on commercial property have not yet begun to rise back to their pre-recession levels. And, there is, no matter how many properties foreigners are buying these days, an adequate supply of both land and buildings available - even in your own backyard. The only real problem in this market is getting a commercial real estate loan for that purchase - tougher than it was just five years ago. However, if you can keep these three keys to commercial property in mind, you should be able to easily take advantage of this beneficial market and get the property your business needs to grow and prosper. And, with these key items taken care of before you walk into your lenders office, all those other issues will just fall into place - as these key items are what really matters to all commercial lenders. Think about it this way. Would it be better to continue to pay your landlord thousands of dollars a month that only goes to build his wealth or to put those funds (your money) to work buying a building that could be worth hundreds of thousands of dollars to you once paid off - not to mention the benefits you get for your business by owning and operating your own building.
