When it comes to financing your commercial real estate (CRE) project, there are no shortage of options. In fact, with so many lenders and products to choose from, identifying the right one to suit your needs can feel like an additional challenge to overcome.
Bridge loans, term loan and permanent loans are some of the more common options – but which one should you choose for your CRE? We explain more about how they work and their pros and cons, helping you to make a more informed decision.
Why use financing for a CRE?
Seeking finance for a CRE is often seen as an important step in the process. If you are purchasing land for development, refurbishing, or investing in a new project, seeking commercial real estate lending could allow you to maximize your real estate opportunities. It is important to find a lender with the right experience and expertise, especially if this is the first time you are venturing into the real estate market.
How do bridge loans work?
Bridging loans are a common option for businesses looking to invest in commercial real estate. They usually last anywhere from a few weeks up to 18 months – there are lenders who will offer longer terms, although this is rare.
Not all bridge loans involve money, with some including an equity-for-capital exchange. When an asset is required as security, this involves the use of commercial property – there are lenders that may permit machinery and other business-related items.
Commercial bridge loan pros
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Fast injection of funds for your CRE
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Repayments can be managed over a fixed period
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Funds can be used to cover acquisitions or existing short-term debt
Commercial bridge loan cons
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Interest rates tend to be higher due to the shorter repayment terms
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Your asset could be at risk of repossession if the loan defaults
How do term loans work?
Term loans allow you to access a large lump sum of money for your CRE that can be repaid over an agreed period. They are available in three different forms: short-term, intermediate-term and long-term. Where a short-term loan may require full repayment within 12-18 months, the conditions for a long-term loan can last for as long as 20-30 years.
You will need to provide security against the loan, which many lenders require to be property, although other assets could be possible. Certain types of long-term loans can also offer tax benefits, with the interest potentially being available for tax deductions.
Term loan pros
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Term loans can have lower interest rates depending on your circumstances
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Flexible repayment terms can remove some of the financial burden
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You always know how much you repay each month and when
Term loan cons
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You will need to offer an asset of at least the same worth as the loan value
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Some lenders may impose restrictive covenants as part of the deal
How does permanent financing work?
Permanent financing refers to a long-term loan that is repaid over an extended period. Despite the use of the word ‘permanent’ these loans do not last forever. Instead, the borrower agrees to repay all the funds – and interest – at a fixed date in the future. Most permanent loans tend to last for around 25 years, although some lenders may offer terms that are slightly longer.
In real estate, once a project has been completed, developers typically take out permanent mortgage loans (another term used for permanent loans) to replace the construction loan financing that was used to prepare the property.
Permanent financing pros
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Fast approval allows for greater flexibility and planning
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Extended repayment terms and lower interest rates
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Most permanent loans are non-recourse, so no asset is required
Permanent financing cons
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A less-than-perfect credit history can lead to higher interest rates
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Early repayment penalties may be applied by some lenders
Final thoughts
If you only need to borrow money for a short, fixed period, bridge loans could be the better option. However, interest rates tend to be higher for this type of finance. Term loans offer the opportunity to borrow funds for longer periods if needed, although if restrictive covenants are imposed this could present challenges. Permanent financing is another option worth considering, and borrowers should be aware that early repayment of the loan could incur financial penalties.
