Applying for commercial real estate loans

Looking to expand your business, or just to stop paying rent every month? Commercial real estate loans can get you into a new position as a property owner. Here are some important facts to keep in mind as you consider applying for commercial real estate loans.

The most important lesson is to unlearn what you know about residential mortgages. Lenders require different types of information, rates change in different ways, and lending requirements vary as well. Make sure you take the time to understand exactly how commercial real estate loans work before you start talking to lenders.

Commercial real estate loan requirements

To evaluate your business as a credit risk, commercial lenders will do an in-depth analysis of your business's financial health. You'll have to provide bank statements, balance sheets, income and expense reports, tax forms, and more. While it's not usually part of the evaluation, you may also have to provide your personal financial records.

These documents go into the calculation of your debt service coverage ratio (DSCR) - the ratio of your net income to the monthly mortgage payments. You'll have to demonstrate a DSCR of at least 1.25 - that is, that your income exceeds the expected payments by 25% - to get the best rates.

Unlike residential mortgages, you won't be able to borrow the entire purchase price of the property: commercial real estate loans aren't available with zero down payment. The ratio of what you borrow to the value of the property is referred to as LTV (loan to value), and the lower that ratio, the better rate you're likely to get on your mortgage. Many lenders cap the LTV at 75%, and you'll get better rates at an LTV of 50% or 60%.

Getting approved for a commercial real estate loan

Even if you meet the basic LTV and DSCR ratios, the type of loan you're applying for can also impact your chances of being approved. Buying a property with the intent to lease it can be difficult, especially if you don't have any previous experience managing commercial properties. Unless you're buying a property that has existing tenants, you won't be able to use the future rental income as part of your application.

Restaurants and nightclubs may also face difficulties securing a commercial real estate loan, due to the high rate of failure of new locations. And individuals just starting out in business are unlikely to get a commercial mortgage no matter what their business plan or financial situation: businesses without a proven track record are considered very poor risks by most lenders.