Investing in commercial real estate can be a very lucrative venture, but most people don't have the capital to fund these investments on their own.
Fortunately, there are a variety of different real estate loans to accomodate investors with different needs.
However, it is important to understand what your options are and why you might choose one type of loan over another. Depending on your financial situation and investment plans, the right loan for you may be different than what you expected.
Traditional Bank Loans
Applying for financing from a bank has its fair share of advantages.
Primarily, banks tend to offer very low interest rates compared to other lenders. Often, they also offer larger sums to borrowers.
The downside to this is that banks often have much stricter requirements. You may have to a credit score greater than 700 and be able to demonstrate significant savings in order to prove your financial stability.
Furthermore, while bank loans tend to be flexible in terms of what you can use the money for, the amount you are offered may be dependent on the appraised value of the property you want to purchase. For rehab properties, this could mean that you aren’t able to borrow enough to fully fund your investment. You may also have to use the property as collateral.
Bank loans are often the first choice for people in need of financing. However, you may find that you may not be able to meet the strict requirements.
Bridge loans can be a great short-term financing solution for commercial real estate investors.
Investors may choose a bridge loan in order to finance immediate needs. These types of loans are typically offered with short repayment terms—usually around a year. Often, they are used to provide cash flow while searching for long-term financing.
You can get a bridge loan from a private lender, but be prepared to demonstrate an excellent credit history and the ability to fund existing expenses on your own.
Hard Money Loans
Hard money loans are offered by private lenders and usually require that your commercial property is used as collateral.
They are very flexible and the approval process is typically very fast; however, they tend to require very large down payments and carry high interest rates.
Like bridge loans, hard money loans are meant to be a short-term solution. They are often used during situations such as a foreclosure proceeding when time is the most important factor.
The main difference between secured loans and unsecured loans is very simple: Secured loans require collateral, unsecured loans do not.
Collateral allows borrowers to put up valuable property in order to secure higher loan amounts and lower interest rates. If the loan is not repaid, the lender can seize the property to repay the remaining amount. This helps minimize the lender’s risk.
Unsecured loans mean lenders are taking on more risk. As such, you can expect higher interest rates and the amount you are able to borrow may be limited. You’ll also have to rely on your credit history and personal income to be approved for a loan.
However, unsecured loans are often much easier to get and have quicker approval processes. Additionally, they are more flexible. Unsecured personal loans can typically be used for anything. Lastly, if you are not able to repay the loan, you won’t have to sacrifice any valuable property.
Unsecured loans are great for investors looking for flexibility and who need money quickly.
Opening new lines of credit is another common way to fund the expenses of your existing properties and to help finance new investments.
Credit is unsecured and gives you access to money as you need it. Revolving credit allows you to transfer money to your bank for any reason and can be used for just about anything you need.
Opening a new line of credit is typically very easy and fast as requirements are often lenient. However, since requirements aren’t as strict as other types of financing, interest rates are often high and may be fixed or variable. Additionally, once you reach your credit limit, you may not be able to access any additional credit.
It’s also important to remember that this will impact your credit score. Credit should only be utilized if you expect to be able to pay it back.
Credit is great for investors that experience frequent fluctuations in cash flow and are susceptible to unexpected expenses.
While these aren’t all the types of financing available to commercial real estate investors, they are some of the most common and flexible. Understanding the differences between these types of loans will help you obtain the funding that meets your needs.