One of the essential components of executing a commercial real estate transaction is financing; without financing, there can be no investment. Most investors must use debt in these deals because the properties must be bought, built, or renovated. They are larger or more costly than a usual residential real estate sale.
Commercial real estate investors have access to a wide range of financing options. But investors must carefully consider their options depending on the kind of property, where it is, and what the loan is for. For instance, not every lender offers the same loan products, and not every product type is compatible with every loan product. Since each scenario is different, commercial loans may seem challenging to those unfamiliar with the market.
Here, you’ll get to know about the numerous options for financing commercial real estate, ranging from conventional loans to cutting-edge crowdfunding platforms.
Financing Options for Commercial Real Estate
When purchasing commercial real estate, most borrowers automatically contact their current lender or bank, which is a good first move. But for an offer to better suit their conditions, borrowers must also ensure they know all the other financing options available to them.
You might unintentionally exclude other, potentially superior financing options if you only consider one lender’s options. Depending on the deal’s specifics, alternative financing options might suit your requirements. Due to the size and complexity of most commercial real estate transactions, borrowers should consider all available options before settling on one.
Conventional financing also called a “traditional bank loan,” is the most common option to finance commercial real estate. Traditional bank loans can be tailored to the borrower’s needs compared to other commercial real estate loans, giving them the most flexibility.
Large national banks and small local banks both provide conventional financing. Smaller banks, on the other hand, frequently make hyper-local decisions, allowing them to be more adaptable in light of their knowledge of the particulars of the local market.
Banks work in very different ways depending on where they are, what kind of market they are in, how much money they have, and how assertive they are when negotiating. Based on the property type and creditworthiness of the guarantors, commercial bank loans typically only cover 60-80% of the cost of the property. If the property is in good condition and has a high resale value, they may occasionally give you up to 100% of the purchase price, but this is extremely uncommon.
Using equity investors as a funding source is another option for purchasing commercial real estate. You and other shareholders pool your money in private equity to buy a business property. Investors typically receive a portion of the company that owns the investment and a share of the profits and other advantages from the asset. These transactions may be set up as GP (General Partner), LLC (Limited Liability Company), LP (Limited Partner), or in other manners.
If you are the transaction sponsor or the property owner, you allocate the profits to the investors as per the percentage outlined in your signed agreement. Private equity agreements typically remain in effect, and revenues are split as long as that business operates, unlike loans that terminate when amortization is paid.
Additionally, you could use a commercial bank loan to pay the remaining balance and raise private equity to pay for the deposit on the investment.
Real Estate Syndication
The Security and Exchange Commission, or the SEC, regulates real estate syndication, which has a structure akin to private equity but is slightly more structured. Aside from real estate, syndicated investments can also be made in other assets, such as trucks or sports teams.
Real estate syndication involves a person known as a “deal sponsor” who goes out and finds an investment opportunity for the group. They know the funding they require and have (hopefully) conducted in-depth feasibility analyses of the site and its potential. Syndication serves a very specific function in contrast to private equity, where investors can pool their money without knowing what they are dealing with.
Seller Financed Real Estate
Deals in which the seller finances the buyer’s purchase and holds the note on the property are known as seller-financed transactions. They take place in private between the buyer and the seller.
A down payment is generally required from the buyer. Both parties recruit legal counsel to select the contract and promissory note. You’d be surprised how many individuals throw something together on the spot and sign it with a handshake or a handwritten document. This agreement should specify information like interest rates, payment terms, the length of the loan, and other repercussions in the event of a breach.
Due to the absence of banks or third-party financing companies, transactions in this space can be completed quickly. They can also be very beneficial for both parties since the buyer frequently receives improved loan terms than they would receive from a financial institution. Also, the seller avoids paying a sizable lump sum of capital gains tax.
Online crowdfunding platforms are relatively new to financing commercial real estate, but they have already drawn much interest from investors.
Crowdfunding platforms for real estate give people who need money an alternative way to get real estate equity and debt. Because of changes made to SEC rules by the JOBS (Jumpstart Our Business Startup) Act of 2012, people can now invest in real estate the same way they would in other, more traditional securities through these platforms.
Before the change, accredited investors were the only ones permitted to use these online platforms to deal in real estate equity and debt. Now, non-accredited investors are also permitted. While most real estate investors use these systems to invest in equity, they can also be used to raise money for debt funds, which then invest in various commercial real estate transactions. Through crowdfunding platforms, professionals have been able to raise money for commercial real estate ventures by finding sponsors willing to cover their debts and equity.
The options for financing commercial real estate are numerous, as you can see. In the end, the financing options available to each borrower will be determined by the deal’s structure, including but not restricted to the borrower’s type. The key factor affecting a borrower’s funding options is their creditworthiness, which is very different from the straightforward credit check a lender performs for a single-family home loan.
Before making an offer of credit, the lender wants to look into the specifics of a deal, including the real estate property and the parties providing the funding. This will help them understand the various risks.
For the best deal possible, borrowers should know all their real estate financing options. To get guidance on your options, you can contact our commercial real estate experts at Bhive.