Welcome to your ultimate guide to commercial property loans.
What’s in store for you?
We will navigate together through the ins and outs of commercial property loans, updated bank policies, non-traditional banking options, and the prevailing interest rates in this dynamic 2023 market.
In a nutshell: If you’re seeking a commercial property loan coupled with the most competitive interest rate, you’ve come to the right place.
Let’s embark on this journey.
Table of Contents
1. The Fundamentals of Commercial Property Loans
In this segment, we’ll introduce you to the basics of commercial property loans. We’ll kick things off with how much you can borrow, and then present a wide array of options across the Australian lending landscape.
1.1 How Much Can I Borrow?
The initial point of interest with commercial lending is the amount you can borrow, and it’s largely influenced by the security the lender holds.
Properties like shopping centres or offices are seen as more secure than an unsecured cash flow business. This guide focuses on secured commercial property loans:
- You can borrow up to 100% if you have a guarantor, or additional collateral for the loan.
- You can borrow up to 75% if the property is valued up to $2 million.
- You can borrow up to 70% if the property is valued up to $5 million. In simpler terms, for a $2 million commercial property, you’ll need a 25% deposit.
If the property is valued over $5 million, and up to $100 million, lenders and banks will consider these on a case-by-case basis.
1.2 What Type of Security Can I Use?
A key difference between commercial and home lending lies in the security property. With commercial lending, the security is typically commercially zoned properties like factories or office buildings. Here are some common types:
- Office Buildings
- Shopping Centres
- Land Subdivisions
- Residential Property Development Finance
- Block of Strata units
- Block of Flats
- More than three units in one development Banks also consider specialised commercial properties as security.
A complex with multiple commercial properties would be viewed as specialised, requiring a higher deposit. The deposit could be between 25-30%, depending on the price.
Higher-risk properties might demand a higher deposit and thorough valuation analysis:
- Short Term Accommodation like motels, hotels, or caravan parks.
- Aged Care facilities like residential care and respite centres
- Child Care and Montessori centres
- Petrol Stations and specialised retail outlets
- Management rights
- Shopping Villages and Neighbourhood retail centres
- Englobo Land and speculative land banking sites
1.3 Different Types of Commercial Lending (Purpose)
The big point of difference between residential lending, and commercial lending is that the latter is not regulated by the National Consumer Credit Protection Act (NCCP).
In other words, commercial property borrowers do not have the same consumer protections as home lending. The type of commercial lending purpose will ultimately affect how the lender will assess, and price your loan.
- Investment – Lowest risk; purchasing or refinancing a commercial property for rental purposes.
- Owner Occupied – Medium risk; purchasing or refinancing a commercial property for your own business operations.
- Working Capital – High risk for most lenders; funding for your business’s day-to-day operations.
- Other – Other purposes beyond the above are considered on a case-by-case basis. This might include buying a real estate agency business. The security property doesn’t decide the purpose of lending, it’s about what the funds will be used for. This determines if the loan falls under National Consumer Credit Protection Act (NCCP) regulation or not.
For instance, if you’re using a commercial property as security to borrow funds for a new home, the NCCP might apply, and some lenders may not approve your loan on this basis.
Banks find commercial property investment the simplest and lowest risk lending, and may consider up to 75% LVR (meaning you only need a 25% deposit) on purchases up to $1 million.
1.4 What Income Do I Need?
Commercial lending is more relaxed when it comes to income verification because there are fewer legislative restrictions compared to residential lending. Lenders aren’t required by law to prove a borrower can afford the loan to the same extent as with home mortgages. This leads to more income verification options:
- Full Doc: You need to provide the last 2 years’ tax returns and financial statements to show your income is higher than the interest costs.
- Lease Doc: You only need to provide rental income from the investment that’s higher than the interest costs.
- Low Doc: Basic income verification like a letter from your accountant or BAS statements to confirm your income is higher than the interest costs.
- Forecasted Income: Provide financials, including your profit and loss statements, to show expected business income growth to cover the interest costs. Despite the more relaxed income verification requirements in commercial lending, lenders will not lend to individuals who can’t afford their loan repayments. It’s unrealistic to expect approval for a high-risk loan.
2. Finding the Right Lender
In this section, we explore how to find the right lender for your needs, considering factors like interest rates and terms.
Utilizing the steps below will yield a multitude of ideas to assist you in locating and securing the BEST commercial property loan.
Here’s the process:
2.1 Which lender does what?
The biggest differentiators among lenders are their risk tolerance, the types of security they specialize in, and how they verify income. Given the constant policy changes and multiple variables like security type, your income situation, the lender’s current risk appetite, and risk tolerance, it’s tough to give a general ‘this lender will be right for you’ statement. Each application and security property is unique.
Here’s a broad overview of the current commercial lending market in Australia:
2.1.1 Major Banks
Most banks offer their own commercial property loan products and have limited areas of specialty. If you’re purchasing a simple investment like a warehouse or an office, they’re likely to offer some of the most competitive rates in the market. However, they typically cap their LVR at 65% for commercial property. Examples include:
2.1.2 Smaller Banks & Building Societies
Non-major banks also offer commercial lending. They sometimes offer higher LVRs than major banks but may have higher rates and fees. However, they can be a good option if your tax returns aren’t up to date due to their added policy flexibility and alternative income considerations. Some examples include:
2.1.3 Specialty Lenders
Specialty lenders focus on riskier businesses that don’t fit within the bank’s credit policies. They are the go-to for options like low doc and lease doc. They can sometimes be more expensive due to the higher risk involved. Examples include:
2.1.4 Private Lenders
2.2 Putting Your Best Foot Forward
With commercial lending, it’s critical to present a strong application rather than just filling out a bank’s form and emailing your paperwork. This involves highlighting your deal summary, security property overview, income and servicing position, and other critical details. A well-presented application can present a stronger case to the bank and address any concerns they may have.
2.3 Securing a Better Interest Rate
The cost of funds varies among lenders in Australia depending on their funding sources. Generally, larger lenders with lower risk appetites tend to offer lower rates.
Additionally, most of these lenders utilise a risk matrix for quoting interest rates on significant transactions. They take into account several factors such as:
- Security property: This includes the location, suburb, and area of the property, its condition and appeal, the state of the surrounding market and competition, as well as economic conditions that may affect the property.
- Sponsor/Loan Guarantor: They consider the level of interest cover and the ability to repay the loan, the Loan to Value Ratio, the net asset position, and the sponsor’s previous experience and track record. The team and other people involved in the transaction are also considered.
- Lease/holding income: Factors such as the Average Lease Term (WALE), tenants’ details and their financial capacity, as well as their industry sector and how it might affect the rental are assessed.
As previously mentioned, commercial property loans are more complicated than regular home loans, which only factor in LVR, loan size, and loan amount.
2.4 Fees and Charges
When applying for a commercial property loan, consider the associated fees and charges, including establishment fees and deferred establishment fees. Always ask for the lender’s fee schedule before applying and confirm they do not have any early repayment fees applicable if you refinance or sell the property within a set period.
2.5 Other Questions to Consider
As with residential lending, you can choose from fixed or variable rates in commercial lending. If you want certainty and are risk-averse, consider a fixed-rate commercial loan. If you are comfortable with some volatility and want to be able to make additional repayments, a floating or variable rate commercial loan could be a better option. If you are undertaking a property development or construction project, you will need to use a variable rate loan.
2.5.1 Why do fixed rates have an early repayment cost?
Fixed rates commercial loans are a contract between you, the borrower and your bank. And while they give you the certainty of repayment for that set period, they also give your bank certainty about the interest repayments they will receive over the fixed rate term. This lets the bank make hedging and funding arrangements to match. In making these hedging and funding arrangements, the bank will incur interest costs. If you as the borrower repay some, or all of your fixed rate early or want to switch before the end of the fixed term the bank will need to change the funding armaments. For this reason, the bank will charge you an Early Repayment Cost to recover the banks ‘reasonable estimate’ of the costs in changing the arrangements.
2.5.2 Case Study: Fixed Rate Break Costs
Shaun takes out a 2 year fixed rate loan of $500,000 at an interest rate of 7%. One year later, Shaun decides to fully repay the loan, and at that time the interest rates in the market are 5%. Based on the table below, Shaun will need to pay roughly $9785 ($1957 per $500k early repayment) for breaking the fixed rate.
3. Product Features
In this section, we’ll delve into the features of commercial property loans. We’ll start with the basic features, and then I’ll guide you through the quickest and easiest way to identify the right loan features that cater to your specific needs.
3.1 Commercial Property Loan Features
Unlike regular home loans, commercial loans usually have basic features. Here are some of the key characteristics:
- Entities: Individuals, trusts, companies, or self-managed superannuation funds (SMSF) are eligible.
- Loan term: Up to 25 years for commercial security (depending on the lease term).
- Interest-Only Period: Up to 10 years is acceptable (depending on the lease term).
- Extra repayments: Available on variable facilities.
- Redraw: Sometimes available, depends on the lender.
- Cash Out: Available, depends on the purpose.
- Capitalised Interest: Available, depending on the purpose.
- Internet Banking: Mostly available, depending on the lender.
- Offset: Not generally available, depends on the lender.
Different lenders have distinct target markets, so their product features depend on that. For instance, lenders specializing in development and construction finance generally offer products with limited features.
3.2 General Security Agreement (GSA)
When applying for a commercial property loan, the bank might require you to sign a General Security Agreement, or GSA. This is a form of security in addition to the property that gives the bank security over all the assets owned by a person or company acting as a guarantor to the loan.
Provided you have sufficient equity in the security property, your mortgage broker could negotiate the exclusion of the GSA. Factors that can help mitigate the need for a GSA include purchasing a standard commercial property, keeping the total lending under $1,000,000, demonstrating strong financials, and showcasing a strong business plan and experience.
3.3 Changing Banks: Is it Necessary?
Most banks will require you to switch all your business banking and lending to them as part of the deal if you’re purchasing your own commercial premises. However, it’s possible to switch lenders without moving your business banking.
Strategies include borrowing against a commercial or residential property, reducing the unsecured lending to below $1,000,000, negotiating the annual review requirement, and considering non-bank lenders.
4. Choosing a Lender
In this section, we’ll delve into a critical aspect of commercial lending: The HG Process. This method is a proven strategy that has helped clients save hundreds of thousands of dollars, and I’m excited to share it with you.
4.1 The Process of Getting a Commercial Loan
Obtaining a commercial loan entails a more detailed procedure than a regular home loan. In commercial lending, significant time is spent upfront on the credit proposal and memo before it even reaches the bank’s credit team. If your mortgage broker has done a good job, they will receive 2-3 offers from banks.
4.2 Case Study: Retail Shop Purchase
Let’s consider the case of a client who recently bought a set of retail shops. Three different banks offered various lending terms:
All in Rate
Bank 3 (clients existing bank)
Using ‘The HG Process,’ we revisited all the banks, provided feedback on their offers, and gave them one last chance to fine-tune their rates. After the final round of negotiations:
|Bank||LVR||Establishment Fee||Term||All in Rate|
|Bank 1||55%||0.40%||2.5 years||2.95%|
|Bank 2||55%||0.30%||3 years||2.80%|
|Bank 3 (clients existing bank)||50%||0.50%||3 years||3.00%|
As you can see, bank 2 was the clear winner.
Surprisingly, Bank 2 emerged as the clear winner, even though Bank 3 was the client’s original bank. Notably, Bank 3 was the most expensive and offered less leverage.
4.2.1 The Impact of a 0.50% Rate Difference
You might wonder, what difference does 0.50% make? In this case, where the facility was worth $12,000,000, an extra 0.50% equates to $60,000 per year or $180,000 over 3 years. This demonstrates how slight variations in rates can lead to substantial differences in the cost of a loan, thus emphasizing the importance of diligent lender selection.
5. Annual Reviews
This chapter focuses on advanced tips and strategies concerning annual reviews in commercial lending. We’ll explore why annual reviews matter, and discuss strategies to find lenders who do not necessitate these reviews.
5.1 Why Do Banks Need Annual Reviews?
n commercial lending, simply making your loan repayments on time isn’t sufficient. For larger loans, lenders often require regular access to your profit and loss statements to verify your financial health and your ability to continue repaying the loan. This scrutiny can range from quarterly Business Activity Statement (BAS) reviews to ongoing facility monitoring.
Common situations where lenders typically request annual reviews include:
- When lending is over $2,000,000
- When there are unsecured facilities involved
- When specialty properties are used as security
- When the Loan-to-Value Ratio (LVR) is high or outside regular parameters
- When your repayments have fallen behind
In most cases, lenders will request to see your financials, including profit and loss and balance sheet statements, as well as a cash flow forecast. Some may even require a revaluation of your security property. Beware, if the valuation comes in lower, the bank could use this as a reason to label your commercial property as a higher risk, leading to an increase in the margin on your loan!
5.2 Which Lenders Do Not Require Annual Reviews?
If the prospect of annual reviews concerns you, let our team know. We can connect you with lenders who do not require such reviews. Several smaller lenders, as well as some specialty lenders who offer commercial lending on 15, 20, or 25-year loan terms, do not necessitate annual reviews.
For more information, call us on 1300 088 065, or leave your details for our brokers to get in touch.
6. Mortgage Broker or Bank
Commercial property lending is a highly complex field, made more intricate by banks’ practices of not publishing their interest rates and continuously modifying their lending policies. This is why many high net worth investors choose to deal with specialist commercial mortgage brokers when purchasing an investment property.
6.1 Why Choose a Mortgage Broker?
Being among Australia’s top commercial mortgage brokers, we have access to some of the best rates on offer, the kinds that banks do not typically advertise. Our clients benefit from:
- Experience: With over $1 billion lent and hundreds of commercial property investors and developers assisted across Australia, we know how to guide you through the process. We are among Australia’s Top 10 Commercial Mortgage Brokers.
- Specialisation: Our mortgage brokers are commercial lending experts. Having worked in bank credit departments, we understand the kind of finance that will yield the best result.
- Deep Industry Relationships: With over a decade in the industry, we have strong relationships from the heads of banking in major banks to individual credit managers. Knowing the right person in the bank can make a significant difference to your application.
- Sharp Pricing: We deal with commercial lending scenarios daily and understand the current market. When a loan is submitted to a bank by a broker, the bank knows they need to be competitive to secure the deal.
- Flexible Lending Policies: As mentioned earlier, we have access to 30+ commercial and specialty lenders, each with different risk appetites and funding sources. This gives you funding from various lenders, meaning less restrictive terms.
6.2 Will I Get a Better Deal Going Directly to the Bank?
Interestingly, we can often negotiate a better deal with your bank than you could directly. Commercial Relationship Managers are incentivized on portfolio growth and their return on equity, focusing primarily on the bank’s profit. This focus can result in you getting less favorable terms when dealing directly with the banker.
6.3 How Does a Commercial Mortgage Broker Help?
Our process begins with understanding your situation to assess whether we are a good fit. Once we have all your documentation and understand your goals, we negotiate with our panel of lenders to secure the best terms and interest rates. We then use ‘The HG Process’ to negotiate further reductions in margin and improvements in LVR and term. We guide you throughout the process, assisting with valuations, formal approvals, and document signing.
6.4 How Much Do Commercial Mortgage Brokers Cost?
Unlike some brokers, we do not charge any fees if you are borrowing over $500,000 and keep the mortgage for at least two years. Like our Residential Mortgage Brokers, we are paid commissions by the bank to settle your commercial loan.