Construction Loans
Build from the ground up
Real estate can be a great investment for any sized business. In most cases, it also represents a big commitment, one that the business might not have cash on hand for. Most real estate investing is done with the help of real estate loans. They can be used to acquire a new property, to renovate an existing property, or to refinance another property loan.
Overview
Some companies and developers invest in real estate by building or procuring property that can be rented to tenants. This can include commercial rentals like convenience centers and office buildings, or housing developments intended for families. Once built and occupied, the cash flow from tenants can be used to repay the loan.
The terms of commercial real estate loans range from five to twenty years with a longer amortization period. The borrowing company makes payments based on the amortization period.
Interest rates on commercial real estate loans depend on the length of the loan term, the length of the amortization period, and the borrower’s credit strength. Lenders use a Loan-to-Value ratio to determine financing rates. A lower LTV often means more favorable lending rates. The LTV of most commercial real estate loans is 65% to 80%.
Another figure lenders take into consideration is the DCSR or the Debit-Service Coverage Ratio. This figure takes into account the business’s net operating income and annual debt service.
Loan Highlights
Lenders may pay funds directly to contractors.
One milestone must be completed before funds are released for the next.
Detailed plans must be submitted that include an exit strategy.
Since the real estate being built can’t be used as collateral, borrowers must have a good credit history.
Pros
Loans can be used to finance new construction or renovations.
Only interest payments are due until the project is complete.
Other property in the borrower’s portfolio can be used to secure a loan.
Some loans roll over into long-term financing.
Cons
Interest rates are higher than traditional mortgages.
If long-term financing fails to come through, the borrower still has to pay back the loan.
Construction loans are often hard to qualify for.
Extensive documentation has to be submitted and approved.
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