Commercial Loans: Construction and Renovation Loans
What is a commercial construction or renovation loan?
- For businesses looking to build their own facilities from the ground up, or to renovate their existing facilities, they’ll likely need a construction loan.
- Unlike with purchase loans, the company does not receive the full amount of the loan up front.
- Rather, partial amounts of the loan will be released in “draws” as each construction phase is completed, and the company only pays interest on the draws.
- At the end of construction, the principal balance is due, which usually means the company will have to take out a new mortgage (with the completed property serving as the collateral).
- However, to save the company from having to seek a new mortgage, some lenders offer construction-to-permanent loans, which means the construction loan automatically converts to a permanent mortgage after construction is complete.
Sample commercial construction and renovation loan programs
There are several commercial construction and renovation loan products to choose from, including:
Option #1: Obtain a loan guaranteed by the U.S. Small Business Administration (SBA). To promote and foster small businesses, the SBA (a government agency established in 1953) guarantees business loans made by banks and other lenders as long as they meet SBA guidelines. The hallmarks of SBA loans are relatively low interest rates and long repayment terms. To qualify for an SBA loan, the borrower must meet several requirements, including:
- The business must be a for-profit business that does not exceed $15 million in tangible net worth, and does not have an average net income over $5 million for two full fiscal years;
- The business must be able to repay the loan based on projected operating cash flow;
- The property in question must be at least 51% owner-occupied; and
- The business owner should have a personal credit score in the 600s.
When it comes to construction and renovation loans, two SBA loan programs stand out:
- SBA 504 loan program: The loan funds can be used to build new facilities or modernize, renovate or convert existing facilities. The maximum loan amount is around $14 million, the down payment is usually 10% (but 15% if new business), and the terms range from 10 to 25 years with a fixed rate.
- SBA 7(a) loan program: Unlike 504 loans, 7(a) loans have a more general purpose and can be used for construction and renovation, as well as other business purposes such as working capital. The terms are similar to 504 loans, except the maximum loan amount is $5 million. Also, the interest rate is tied to the prime rate (e.g., for loans 7 years or longer for over $50,000, the maximum interest rate is prime + 2.75%).
Option #2: Obtain a conventional loan. For companies that do not qualify for government-backed SBA loans, conventional loans from banks may be a possibility. Rates and repayment terms vary, but business owners with good credit can expect to make a 20% to 30% down payment.
Option #3: Obtain a hard money loan. This is typically a good option for businesses that cannot qualify for SBA loans or conventional loans from banks due to a variety of reasons, including low value of collateral, limited documentation, or low credit scores. For hard money loans (or “private money loans”), private lenders focus almost exclusively on the value of the property being used as collateral, not on the creditworthiness of the borrower. Interest rates on hard money loans are usually higher than the rates for SBA and conventional loans.
Sample success stories
To see how we’ve helped individuals obtain commercial construction loans, go to our “Success Stories” page and filter by “Commercial Construction Loan”.