Talking about… Commercial Mortgages
May 25, 2017
Written by Martin Lau
Many of you have entrusted us with the financing of your homes, investment properties, cars, and even boats. But the lesser-known fact is, we can also assist with the finance of commercial properties.
Unlike residential mortgages, information on commercial mortgages is scarce. The interest rate and policy terms of a commercial mortgage are rarely available on the lender’s website. So when a business banker says, ‘every deal is based on risk’, it can appear daunting to a novice.
What are commercial properties?
For finance purpose, we split commercial properties into ‘standard’ and ‘specialised’.
Standard properties: have wide appeal and tend to be multi-purpose. Examples include shops, warehouses, and offices, i.e., the majority of commercial properties on the market. All lenders will accept these properties.
Specialised properties: Are single purpose and have a limited buyer market. For example, petrol station – we cannot freely convert it into a hotel, or an aged care facility – location is secondary to an experienced operator. It is more complex to finance these properties.
Who are the lenders?
The Big Four (ANZ, CBA, NAB, and Westpac) are the dominant players with the majority of the capital. They are more willing to take on riskier and more specialised properties.
The smaller lenders (from Adelaide Bank to Suncorp) are more selective with their applicants and securities. They offer lower rates to entice customers.
Some lenders will allow borrowers to secure a commercial mortgage against residential properties. So, if borrowers have sufficient equity in their home or investment properties, they can shave up to 1% – 1.5% on commercial interest rates.
What are the similarities between residential and commercial mortgages?
The principle and process are identical. The lenders will request the same supporting documents, and their priority is to ensure the borrowers can repay the loan.
Unless the borrowers are newly established and buying owner-occupied premises, the lenders will request a copy of the business plan, or when the properties are of higher risk, the lenders may request further documents.
In general, both mortgages offer the following:
- Purpose: owner-occupied and investment
- Borrower types: personal, company, trust, SMSF (conditions apply)
- Products: variable rate, fixed rate, line of credit, Principal & Interest, Interest Only
What are the differences between residential and commercial mortgages?
| Residential | Commercial | |
|---|---|---|
| LVR | Up to 95% | Up to 75% |
| Loan Term | Up to 30 years | Up to 25 years |
| Interest Rate | Transparent | Differ greatly, risk-based |
| Fee/s | Possibly free | Payable, from $1,000 |
| Valuation | Can rely on contract price | Mandatory and long format client’s expense |
| Annual Review | No | Yes |
The greatest point of difference is Annual Review, where the lenders stipulate the borrowers must, yearly, present their latest financials and/or an updated valuation of the commercial property.
While not all loans and lenders require Annual Review, the consequence of a bad review can be frustrating.
Using valuation as an example:
Year 1
Purchase price: $500,000
Loan amount @ 75%: $375,000
Year 3
Valuation amount: $450,000
Maximum loan amount @ 75%: $337,500
The property valued has dropped $50,000 over 3 years. The lender may demand the loan amount be reduced to $337,500 immediately or request the borrowers to offer their other properties as additional collateral.
A unique product
Few smaller commercial lenders have a product, called ‘lease doc’ or ‘simple doc’.
This product is targeted, specifically, at cashed up commercial properties investors or a syndicate.
It does not require proof of income, as long as the borrowers can satisfy 3 conditions:
- LVR: 65%
- Loan amount: $1,000,000 maximum
- Tenants: must be at arms’ length
Extra Tip
The lease of a commercial property is as important as its location.
The reasons are twofold.
First, the lease is invaluable to the property’s valuation. Besides the hard costs (land + improvements) and direct comparison sales, the rental yield and remaining term on the lease have a direct impact on the property’s value.
Second, a commercial property can stay vacant for a much longer period than a residential property. For example, the business premise near our office was vacant for over 3 years.
It is imperative to check the lease before making an offer, or make it a condition of your offer.
Final Thoughts
Applying for a commercial mortgage is more involved than a residential mortgage. When the interest rates and lending terms vary greatly between banks, borrowers – without an experienced broker – are often at the mercy of banks.
If you or anyone you know is looking to save on commercial mortgages and/or want to avoid the dreadful annual review, please contact your broker.