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Refinance your commercial mortgage

What Does It Mean to Refinance Commercial Property?

In business, you’ll reach times when important decisions need to be made. For example, you might need to choose between developing an existing product or working on a new iteration. Similarly, those reading this article might be faced with a difficult decision regarding the finances of their business. Should you refinance a commercial property? We’re going to break down everything you need to know about a commercial mortgage refinance, the benefits and drawbacks of the decision, and the costs involved in the process.

The Process of Refinancing Commercial Real Estate

Alternative Small Business Funding

In short, this process sees you taking out a new loan to pay off a mortgage that you already have for a commercial property. In the end, you still have a loan that you need to pay back. So, why should you even consider this option? Well, some businesses can refinance and enjoy better terms or lower monthly payments. In other cases, business owners want additional cash to invest in new properties or make improvements to an existing property.

Throughout this guide, you’ll see us use the terms ‘commercial property’ and ‘real estate'. In this context, we’re talking about any property belonging to a business. Common examples include retail spaces, office buildings, industrial buildings, and similar properties.

For those who have remortgaged personal property, the process is very similar. After taking out a new loan, you use these funds to pay off the existing mortgage.

Benefits of a Commercial Loan Refinance

Commercial Real Estate Investment Loan

Whether an office building refinance or a large residential apartment building refinance, the first benefit of this route is that you could enjoy lower monthly payments after the switch. As you secure a better rate with a different lender, you pay off the loan with the higher rate and keep the one with the lower rate. With less money going to the loan, you have more funds to spend elsewhere. Alternatively, pay the same amount each month and take a larger chunk of the actual debt away rather than just interest.

As well as lower monthly payments, some businesses want better terms - sometimes, the grass really is greener on the other side. Depending on your position, you could enjoy better conditions by shortening or extending the repayment term. As an example, some businesses move from an adjustable-rate loan to a fixed-rate loan to help with financial planning.

Using a cash-out refinance plan, you can even borrow money without worrying about tax. As you borrow more than you owe, the difference is kept in cash and can be reinvested into the business. As mentioned earlier, you can use this to invest in new real estate or improve your existing real estate.

Finally, it’s important to note that some businesses can use an industrial property refinance to avoid large balloon payments. Since commercial mortgages are typically shorter than residential mortgages, lenders add a balloon payment to make up for the lost income (through missed interest). By switching your loan, you avoid the balloon payment and this potential obstacle in the future.

Drawbacks of a Commercial Loan Refinance

Naturally, no solution is ever perfect, and we don’t want you to think that a commercial mortgage refinance is beneficial for all businesses. For instance, you cannot ignore the closing costs of securing the new loan. Even if the new agreement does have various long-term benefits, you still need to take closing costs and other expenses into account. Ultimately, it’s not worth the effort if the upfront costs outweigh the long-term gains.

Furthermore, you could end up paying a fee for settling the mortgage early. While you might think that the mortgage company will love that you’re repaying the loan early, it actually means that it will miss out on lots of interest payments. The longer you have the loan, the more interest it gets in return. By repaying early, you’re cutting this off. Therefore, most lenders will include an early repayment penalty in the contract. Once again, you might want to rethink an office building refinance if this cost outweighs the long-term benefits.

Lastly, not all businesses will have an opportunity to refinance a commercial property. For example, those with a 504 loan from the SBA (Small Business Administration) cannot refinance the loan. Before looking for loans elsewhere, check the terms of your existing loan.

Costs to Refinance Commercial Property

In this next section, we want to break down some of the charges that you might encounter when refinancing commercial property. By understanding these costs, you can better analyze your own situation and the viability of refinancing for your business.

Early Repayment Penalty - As mentioned in the previous section, early repayment reduces the lender’s earnings opportunities. Therefore, you could face an early repayment penalty. If you have a 7(a) loan through the SBA system, those who repay in the first year will need to pay 5% on top (this percentage reduces over time).

Credit Report Fee - When obtaining a new loan, the lender will need to pull your credit report for a check, and this fee is sometimes passed onto the applicant. Depending on the case, you could pay up to $150 for this privilege.

Guaranty Fee - Just like lenders pass on the credit report fee, they also pass the guaranty fee onto customers - this includes up to 3.75% from the SBA. If the SBA is backing a percentage of your loan, you may need to pay this fee.

Origination and Application Fees - Additionally, some companies charge to cover the cost of refinancing and processing your application. Although the origination fee varies, around 1% is the average for those looking to refinance. Even if your loan is not approved by a lender, you may still pay an application fee.

Appraisal Fee - Just in case all the fees above aren’t enough, you’ll also need to pay for an appraiser to visit your property and provide a valuation. Since commercial property appraisals require more research and time, you could pay up to $4,000 for an accurate appraisal.

Types of Commercial Loan Refinance

With a little more understanding of the process and costs, what types of refinance programs are available in this niche? You’ll typically choose between three different options:

1. Conventional Commercial Mortgage Refinance

Rather than choosing a loan backed by a government entity, you will secure a loan with a traditional lender and use this loan to pay off the mortgage. This is the most basic form of refinance agreement, but conventional commercial lenders will require the business to have lots of experience, large collateral, and evidence of repayment history. In most cases, businesses will borrow a certain value of the property - this will then act as collateral.

2. Government-Backed Commercial Loan Refinance

This time, we’re looking at loans backed by the USDA (United States Department of Agriculture), the SBA (Small Business Administration), or another government entity. While most of the process is the same, the difference is that the government entity backs a percentage of the loan. If the borrower fails to make payments, the SBA covers this percentage (and this makes the business more attractive to lenders).

Once again, you’ll need to prove your repayment history as well as have genuine intentions. What does this mean? The SBA can reject your loan if it believes that you’re only refinancing to avoid balloon payments, for example. When it comes to USDA loans, you’ll need a permanent residency status or to be a US citizen while also being in a rural location.

3. Commercial Cash-Out Commercial Mortgage Refinance

As the third type of loan refinance, this is the solution we mentioned earlier whereby you borrow more than you owe. While the amount you owe is switched to the new lender, the amount of top is usable within the business. After the loan closes, you receive the difference between the amount you borrow and the amount you owe. As a basic example, let’s say that you owe $100,000. Excluding all fees and other minutiae, borrowing $120,000 would mean that the business takes the $20,000 on top in cash.

If you’re to choose this option, pay attention to the terms of the loan because some lenders restrict how you use the cash. This being said, it’s an ideal solution for those who have built up equity.

4. Alternative Financing Options

Requirements to Refinance Commercial Property

Are you looking to complete a large residential apartment building refinance? Maybe an industrial property refinance? At this stage, you’ve seen some of the costs involved in refinancing commercial real estate. What’s more, you’ve also seen the different types available. But what are the requirements? Is this option available to all businesses?

NOI (Net Operating Income) - Without considering debt service, what is your gross income after all operating expenses have been removed? The higher your NOI, the more likely you are to get approval on a refinancing loan.

Credit Score - Next, we’re talking about your business credit score rather than your personal score (don’t panic!). When processing refinance loans, the SBA sets a minimum of 155 out of 300 as your FICO SBSS (Small Business Scoring Service) score. As you’ll find, the SBA does have exceptions so it’s worth exploring these before giving up. On the other hand, non-governmental lenders set their own requirements.

Business History - The longer you’ve been in business and displayed reliable income, the more likely you are to access a refinance loan. While some ask for two years of operation, others want more.

DSCR (Debt Service Coverage Ratio) - When refinancing commercial real estate, the DSCR metric essentially tells lenders the amount of cash that you have to pay off loans and other debts. If your ratio is above 1, this tells lenders that you have enough revenue to cover debts. With this in mind, most lenders will seek a DSCR of at least 1.2:1.

Documentation - Ah, the bane of your life - documents. Unfortunately, there’s no way to say exactly what documentation you’ll need in an article like this. Generally, required documentation will include:

  • Operating statements
  • Business tax returns
  • Personal tax returns
  • Bank statements (business and personal)
  • Rent roll
  • Schedule of commercial real estate holdings

Commonly Asked Questions

To finish, we’ve compiled some of the most common questions in this field.

How do I get help with an office building refinance?

For anything related to commercial funding, contact the South Florida Funding Group. We have alternative funding solutions to provide working capital and finance for other projects. With quick access to cash, you can survive/thrive with important funding when you need it the most.

How do I start the refinancing process on a commercial property?

Bookmark this article to your browser so that you can return whenever you need assistance - speak with a financial advisor to weigh up the pros and cons of refinancing for your business. From here, choose one of the three types of refinancing and seek a lender to improve your position.

What lenders are available for refinancing commercial real estate?

Thankfully, modern businesses have lots of options whether they go through national banks, the USDA, the SBA, credit unions, or even online lenders. Importantly, not all lenders offer all the various types of refinance programs. Therefore, you’ll need to find a lender that offers your preferred refinancing option. Always shop the market with an important decision like this because it could mean the difference between strong rates and weak rates, approval and rejection.

Is cash-out refinancing an option for commercial property?

Absolutely - many businesses each year choose this route. With many lenders offering up to 75% of the property’s value, you can tap into the equity of your property and reinvest the cash into your business.

Should I consider a commercial loan refinance?

Yes - if you think that the switch would allow your business to benefit from lower monthly payments, better terms, or extra cash for growth. As you can imagine, one mistake can leave the business in an even worse condition. Consider the costs of the switch, decide whether it will benefit or hinder your business, and weigh up your options before signing anything.

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