Commercial Mortgage Rates Explained
A strong credit rating and steady cash flow may help you get a favorable rate on a home mortgage, but they are only part of the story when you want to buy commercial property. Commercial lenders also require strong business history, mounds of paperwork, and lengthy background checks to give your business favorable commercial mortgage rates.
As of the end of February, 2014, Commercial Mortgage Market Rates can be found as low as 3.25%. There has not been much of an increase or decrease in the past year. They can go up as high as 6.40% depending on what is being purchased with the loan (general commercial, multifamily complexes, retail, etc.)
Checklist for the most advantageous rates
Commercial mortgages encompass a considerable amount of paperwork and research – much more than a personal home mortgage. The strength of what the borrower can prove will determine the rate. If the borrower supplies statements that have been prepared by an outside accounting firm the lender will be more likely to believe what is presented. Another fact to consider is there are buildings and businesses that are considered low risk like apartment buildings or a warehouse expansion. High risk businesses like restaurants and retail locations will carry a high risk rate.
- Down payment: Lenders require 20% to 30% of the purchase price as a down payment. The more you can put down, the less you'll have to borrow, which keeps your monthly payments lower. It also gives you the advantage of having more equity in the property. The more equity, the less risk for the lenders.
- Loan-to-value ratio (LTV): This is the amount you want to borrow divided by the appraised value of the property. The lower your LTV, the better your interest rate will be.
- Debt service coverage ratio (DSCR): You must demonstrate to lenders that you can generate more money than you need to make payments. Your DSCR is determined by taking your net income and dividing it by your monthly interest and mortgage payments, a rate of 1.25 or higher means you're a low risk for a commercial mortgage.
Types of commercial mortgages
Fixed mortgage is the most common commercial mortgage. Fixed mortgages have consistent payments throughout their term. The upside is if interest rates increase, your rate and payment remain the same. However, if interest rates fall, you remain at the higher rate.
Adjustable rate mortgages rise and fall with the times. They are a gamble. Many investors have entered into adjustable rate mortgages that they could easily afford. However, when rates increased and their payments increased, they had problems paying the higher rate and wound up in default. As a general rule the opening rate for an adjustable contract will be less than the fixed rate which makes the gamble somewhat attractive.
Interest only mortgage allows the purchaser to buy more than he could conceivably purchase on a conventional fixed mortgage. These are written for a specific time frame. At the end of the contract a balloon payment is expected for the original purchase price. In this case no equity has been established because payments of interest only were made. If the property or asset has increased in value giving the purchaser the necessary equity, this would be an opportune time to either sell the asset or convert to a fixed rate commercial loan.
Necessary Documents for a Commercial Mortgage
If you have compared rates from different lenders, your bank will have a complete commercial mortgage group of documents to complete. In addition they may require:
Signed Federal Tax Returns with all Schedules of the Two (2) most recent years
- Personal
- Business
- Borrowing Entity
- Completed Bank or LenderApplication Package
- Property Deed or Purchase and Sales Agreement
- Commercial Leases (if applicable)
- Declaration of Trust and Schedule of Beneficiaries
- Articles of Organization and Schedule of Members
- LLC Operating Agreement and Schedule of Members (if applicable)