Commercial real estate (CRE) refers to properties specifically designed for business activities and are not intended for residential use. These properties, which generate income, could range from retail malls, shopping centers, to office buildings, complexes, and hotels. The funds required for the acquisition, development, and construction of these properties are usually raised through commercial real estate loans. These are essentially mortgages that have the commercial property as security, secured by liens on the said property.
Key Differences: Commercial Real Estate vs Residential
Commercial real estate loans are often used to purchase or renovate business properties, with lenders usually requiring the property to be predominantly owner-occupied — your business must occupy at least 51% of the total space. Acquiring such a loan requires identifying the specific type of commercial loan best suited for your property and business, followed by a thoughtful selection of potential lenders.
Before we delve into the most suitable funding choice for your real estate project, let’s take a closer look at the key differences between commercial real estate loans and residential loans:
Commercial Real Estate Loans
Commercial real estate loans are primarily granted to business entities such as corporations, developers, limited partnerships, funds, and trusts. These loans usually have a tenure ranging from as little as five years to as much as twenty years. Despite this, it's common for the amortization period to be longer than the loan's term. When considering the loan-to-value ratios, commercial loans typically sit in the 65% to 80% range.
On the other hand, residential mortgages are mostly given to individual borrowers. These loans are amortized, meaning the debt is repaid in regular installments over a specific period of time. The most popular product in this category is the 30-year fixed-rate mortgage. In contrast to commercial loans, residential mortgages often allow for high loan-to-value ratios. Some types, such as USDA or VA loans, even permit ratios up to 100%.
Most Common Sources of Funding
As both business owners and investors, managing finances for your real estate ventures is a pivotal task. While you as an investor focus on growing equity, you also need to wear the hat of a sponsor, determining the volume and kind of debt to be leveraged in your projects. This guide offers a concise overview of the most common avenues for real estate financing available to you.
Option 1: Traditional Bank Loans
Traditional bank loans are often the initial financing route that most real estate sponsors consider. They may approach major banks such as Bank of America, Wells Fargo, or JPMorgan Chase, or smaller regional or local banks with specialized knowledge of the area's real estate market.
Option 2: Agency Loans
Fannie Mae and Freddie Mac are two quasi-public governmental agencies primarily focused on providing liquidity to the U.S. housing market, making agency loans an ideal source of capital for multifamily housing deals.
Option 3: Life Insurance Company Loans
Loans from life insurance companies, or "lifeco" loans, are suitable for borrowers with a strong reputation who wish to finance high-quality properties in prime locations.
Option 4: Debt Funds
Debt funds are private unconventional lenders, often private equity funds, hedge funds, private family offices, wealthy individuals, and crowdfunding platforms, looking to provide loans on commercial real estate projects.
Option 5: SBA Loans
Loans provided by the U.S. Small Business Administration (SBA) are suitable for borrowers who plan to owner-occupy their real estate.
Option 6: Real Estate Crowdfunding Portals
Real estate crowdfunding portals like CrowdStreet and Fundrise have emerged as a popular method for securing financing for real estate deals.
Option 7: Hard Money Lenders
Hard money lenders operate in small geographic areas and lend on smaller-scale deals, often to house flippers and small-time real estate developers
Option 8: Seller Financing
Seller financing is an infrequent financing tool but can be useful when the buyer and seller have a good relationship. In this arrangement, the seller holds the note on the property, and the buyer repays the seller instead of a bank.
If you're uncertain about the ideal financing option for your commercial real estate venture, Pacific Partners is here to assist. We can provide guidance and expert insights to help you choose the most appropriate funding source tailored to your specific needs and project requirements.