When looking into starting a small business, there are a lot of factors to consider. Unless your business is entirely online, one of these factors is going to be real estate. Whether you are starting up a store, restaurant, or just need a small office space, commercial real estate loans are something to consider for your small business. Just like when buying a home, buying a business location is almost always done with a loan. However, there are many differences when discussing commercial real estate loans versus residential real estate loans.
The first major difference that commercial real estate loans have is how the loan amount is calculated. When buying a home, lenders will look at your gross income and compare it to the lump sum you are looking for, as well as the monthly payment, to make sure that you are likely to be able to continue paying the loan.
Commercial loans work a little differently. The lender for commercial real estate is concerned with the ability of the property to generate income versus the payments. This is measured by the Debt Coverage Ratio, or DCR for short. If a property earns exactly what it needs to pay, the DCR for that property is 1:1. A typical loan will require demonstrating around a 1:1.25 DCR to be considered.
Down payments are handled very differently for commercial and residential properties. It is fairly easy to negotiate down the down payment for a home, especially when the housing market is strong. It is even possible to get a mortgage with a 0% down payment in some situations. This is not the case for commercial loans. Because commercial real estate is considered a riskier proposition, lenders will typically demand at least a 20% down payment to help mitigate their risk. Even in the strongest markets, where lenders are forced to compete to offer loans, 10% is about the lowest a down payment can get for a commercial property.
A residential loan can last much longer than a commercial one. Most commonly, home mortgages have a repayment term of 30 years. Some mortgages can even last up to 40 years. In commercial real estate, the rules are much different. Lenders like to see a commercial mortgage repaid within 10 years in most circumstances. Like anything else, this number can be negotiated, but it is very unusual for loans to be repaid over a period longer than 10 years when they are applied to commercial real estate.
As you can see, there is a lot to learn about commercial real estate loans that may not be obvious even to somebody who has experience buying a home. Be prepared to normally deal with much stricter terms when buying real estate for a small business, since commercial real estate is considered much riskier than residential real estate. Because of this, you may need to shop around and find a cheaper property than you were originally hoping for to start your business.
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