Residential Mortgage and Commercial Mortgages

For investors primarily familiar with residential mortgage financing, the early stages of considering business financing options can produce many unpleasant surprises. By reviewing the key points in this and related business finance articles, the process of commercial real estate and business opportunity investment financing should be more successful and less stressful.

There are many critical differences between residential real estate investing and commercial real estate investing. There are over 25 business financing differences, and they will not all be addressed in this business finance article.

With the increasingly chaotic investment climate for residential financing in the United States, more residential real estate investors are exploring commercial real estate and business finance opportunities. It is important for prospective commercial property owners, business owners and business investors to educate themselves about options for the business loan and commercial mortgage environment they will be facing.

Personal Guarantors for Business Opportunity Financing and Commercial Loan -

Even though a business is held under corporate ownership, a personal guarantee from the principal owners is routinely required for a commercial mortgage or business loan. This also means that credit scores of the individual business owners will be used as one of the factors to qualify for a commercial loan. Typically a personal guarantee for a commercial loan is required for owners with over a 20% ownership interest.

Down Payment Requirements for Business Financing -

To purchase a business will typically require a business loan down payment varying from 10% to 25% (more in some cases). The type of business, credit scores and business experience will have an impact on the amount required for a down payment.

Stated Income Business Finance Possibilities -

Stated income business loan options will eliminate the need for a borrower to provide personal tax returns. However the stated income business finance approach will not eliminate the need to document income for the business being purchased or refinanced. Unlike residential financing, no documentation (no doc) loans are not available for a commercial mortgage.

Commercial Mortgage and Business Opportunity Financing: Size Limitations -

It is very difficult to obtain a commercial mortgage less than $100,000. A normal maximum for a stated income business loan and SBA loan situations is $2 million. A number of other business finance programs are limited to $5 million.

Appraisals for a Commercial Mortgage or Business Opportunity Financing -

Commercial real estate appraisals are much more expensive and complex than residential appraisals and typically take several weeks to complete. Commercial mortgage and business loan value is based primarily on income rather than comparison with other properties that is so common with residential financing.

Business Financing Interest Rates -

Interest rates for a business loan are generally higher than residential financing and rates up to 13% and even higher are possible. Investors will find both variable and fixed interest rates available from many commercial mortgage sources. Business opportunity financing typically has interest rates 1-3% higher than a comparable commercial real estate loan situation.

Other Important Business Finance Differences -

As noted previously, there are too many differences between residential financing and business finance situations to describe adequately in one article. There are several separate articles discussing issues such as recall requirements, SBA loan options, special purpose commercial property situations and business opportunity loans.

Business Financing and Commercial Loan

The problems which need to be anticipated for a commercial loan are probably more serious and more numerous than most business owners expect. Most commercial borrowers will be totally unfamiliar with a number of the business financing issues. Although each problem will not be applicable to all loans, the potential difficulties will be relevant to business cash advance, business opportunity and commercial real estate investment property financing.

Commercial Loan Advisory Reports -

We have published separate commercial loan advisory reports which provide a comprehensive discussion of the major problems likely to be encountered in typical business financing and commercial real estate loan circumstances. For example, one report focuses on common business opportunity investment financing difficulties. In another report, we discussed the obstacles usually experienced with SBA loan refinancing.

The Black Ice Analogy: Unseen Business Financing Problems -

The focus in this article is to highlight several of the more obscure commercial loan problems. A commercial borrower should consider such obscure business financing problems to be extremely important. When ice is virtually invisible on a road surface, this is usually referred to as black ice. Drivers who have experienced this hazardous condition are likely to realize that invisible business finance problems are equally dangerous for the financial health of a business.

Online Business Finance Applications -

The first relatively unknown business financing problem involves the increasing use of internet technology by commercial lenders. Many commercial loan sites encourage borrowers to submit an online application. This is not a prudent way for a business owner to proceed with their commercial financing.

It is important that business owners understand that it is not in their best interest to submit an online business financing application. For a more detailed understanding of why an online commercial loan application is inadvisable and how to proceed in a search for viable financing, borrowers should review the report entitled How and Why to Avoid the Online Business Loan Application Trap.

Recall Provisions for a Commercial Mortgage -

The next obscure but nevertheless serious business financing problem to anticipate involves the use of loan recall terms by a lender. Commercial loan recall covenants mean that the lender can force the borrower to repay early by calling the loan before it would normally expire. Many traditional commercial lenders routinely place recall clauses in their commercial mortgage conditions, but this potential concern is not applicable to all borrowers since some financing agreements will not allow a loan recall possibility.

The circumstances which can cause a recall will vary but can commonly include periodic lender review of financial statements, tax returns and credit history. If prescribed levels of income, credit scores or other benchmarks are not present, then the lender will typically notify the commercial borrower that they must pay off the loan within a 30-90 day period.

When they receive a commercial loan recall, borrowers will need to act promptly. Prudent borrowers will exclude lenders that require recall agreements when evaluating business financing options. For commercial borrowers who have recall provisions in their current business loan agreement, it will be equally wise to consider refinancing their commercial mortgage before a recall occurs so that refinancing is accomplished according to the preferred timetable of the business owner.

Balloon Payments and Short-term Business Loans -

Another often overlooked commercial financing problem is the increasing emphasis on short-term financing by many commercial lenders. How long is a long-term commercial loan? Depending on individual business financing circumstances, the preferred loan period is likely to be between 10 and 30 years. Unfortunately many business lenders often consider three years as the maximum period before a balloon payment will be due for a commercial mortgage.

With a balloon payment condition, a business owner will be required to either pay the remaining loan balance or refinance. This kind of loan is a short-term commercial loan instead of long-term and should be avoided whenever feasible. Longer-term business financing will often be the critical difference that facilitates a successful business investment because new financing will not be required for many years and business loan payments will usually be reduced.

Inexperienced Commercial Real Estate Loan Lenders and Advisors -

The final example of a problem that is not obvious to most commercial borrowers involves a shortage of business loan experts providing candid advice to business owners. Business financing and business investing has become increasingly specialized in recent years. There have been some recent real estate and business investment developments that have made this process even more complicated. The current turmoil in residential real estate investment property has resulted in an increasing number of residential lenders and advisors attempting to become active in commercial loan activities.

This is an almost impossible transition for most residential lenders and advisors. There are over 25 critical differences between residential and commercial property investing. As a result, these new and inexperienced commercial financing advisors frequently provide woefully inadequate advice and potentially disastrous business financing for their clients.