Commercial loans – what are they and how do they work?
And depending on whether you’re a novice or an advanced investor, your loan needs will vary because your strategy will be different, too.
Newish investors generally buy residential properties and there are a plethora of loans out there to suit them.
Those investors at a more advanced stage of their journey, however, may be buying commercial properties and businesses, and that requires more skill as well as different types of finance.
So what are commercial loans and how do they work?
Investing in commercial property
Before we go any further, though, let’s consider what investing in commercial property entails.
A commercial property will generally be used for retail, office or industrial purposes.
For example, a cafe, a professional services office, or a mechanic.
But there are a multitude of differences between investing in residential and commercial.
Firstly, whereas residential can be viewed as relatively low-risk, commercial can be riskier but it can also produce bigger returns on your investment.
Investing in commercial property usually is more expensive and there is a strong chance of lengthy periods of vacancy.
Buying a commercial property will also usually require a commercial loan to finance it.
Commercial vs. residential investment
As we mentioned above, investing in commercial is quite different than residential, including the fact that it’s just not as familiar as buying a house or a unit.
Some of the other major differences include:
- Residential investment is classed as less risky as everyone needs to live somewhere whereas with Commercial property, not everyone needs a retail space or an office or factory.
- Investing in commercial property involves paying GST, which means that the cost will be increased by 10 per cent. While you can reclaim this, you will still need to pay it upfront.
- Where residential leases are usually six to 12 months, commercial leases are often for much longer periods of time. A normal commercial lease would be for between 2 and 5 years with incremental increases in there and subject to options to renew at the end of those terms.
- Commercial properties are usually vacant for longer but the lessee is responsible for maintenance, repairs and rates so you get to keep a higher proportion of the rent.
- You will have to pay Capital Gain Tax when you sell it, with no discount, if the commercial property was used for running a business.
What is a commercial loan?
OK, so you’ve decided to invest in commercial property or want to buy a business, but how do you go about applying for a commercial loan and which one is best?
There are a number of different commercial loans to consider, which is where a specialist mortgage broker can help you.
With commercial loans, you can choose products that have variable or fixed rates, or a combination of both, as well as principal and interest or interest-only repayments. Commercial loans can also feature a line of credit facility.
One element to consider, however, is that you will probably need a larger deposit to secure a commercial mortgage, which can be in the vicinity of at least 30 to 35 percent of the purchase price depending on the lender.
As an overview, though, here are some of the most common commercial loans:
- Buying or refinancing commercial property
These types of loans are best for those investors buying their first commercial property as well as ones that are already occupied.
- Property development and construction loans
If you’re considering property development, whether it’s residential or commercial, then these loans have been created for that specific investment strategy.
- Subdivision finance
These loans are specifically for subdividing but they can be used for constructing new dwellings as well.
- Mezzanine debt finance
This type of loan is used to complete a project or expansion and normally comes into play when the original loan falls short of the total cost.
- Buying or refinancing a business
If you’re buying an existing business, then you can use a loan specifically for this purpose, too.
Which commercial loan is best for you?
But, a bit like with residential loans, there are various attributes that you can consider to help you work out which one to apply for. You should also calculate your borrowing capacity to understand your financial capabilities.
When comparing commercial loans, you should consider:
- Loan terms
Another key difference between residential and commercial investment is that the loan terms are shorter for commercial. In fact, most loan terms are between five and fifteen years for commercial loan products
- Loan amount
Because of the higher buy-in prices for commercial, the loan amounts will corresponding be higher and will generally be calculated on what the lender believes the business can afford to repay and by when.
- Fees As with other loan products, there are various fees and charges that you need to take into consideration. You should take a look at the upfront fees to apply for and establish the loan, as well as any ongoing fees for account maintenance. These are generally called line fees or administration charges
- Repayments Most lenders who offer commercial loans offer flexible repayment options so the loan won’t impact too heavily on your business’s cash flow. It’s also worthwhile taking a look at the repayment options that are available including interest-only repayments when cash flow is tight, perhaps during seasonal fluctuations.
- Annual reviews Commercial loans are generally subject to an annual review where a business has to provide its lender with its financial data and discuss its trading. Whereas a residential loan is classed as “set and forget”, commercial loans will generally require ongoing maintenance and even seeking up to date valuations for the lender to confirm it’s position
Intuitive Finance – the smart choice
Investing in a commercial property or a business can help you achieve financial independence and freedom if done wisely.
But the realm of commercial real estate and commercial loans can be complex for the uninitiated, which is why you must have good advice every step of the way.
The world of banking and finance can be a pretty daunting one for both novice and sophisticated investors and since our establishment in 2002 we’ve focused on providing outstanding service and business standards.
This approach was vindicated when we were named Victoria’s favourite mortgage broker at the Investors Choice Awards.
So if you’re considering applying for a commercial loan, why now contact Intuitive Finance today to ensure you have the right information and expert support on your side from the very beginning.
Discuss your specific needs & formulate the right strategy for you. Get in touch to organise your complimentary 60min session today!
The information provided in this article is general in nature and does not constitute personal financial advice. The information has been prepared without taking into account your personal objectives, financial situation or needs. Before acting on any information you should consider the appropriateness of the information with regard to your objectives, financial situation and needs.