A guide to commercial mortgages

With the buy to let market coming under fire from recent legislation changes, more and more people are looking at commercial property investment. When looking to finance commercial property purchases, you’ll need to consider a commercial mortgage.

What is a commercial mortgage?

Commercial mortgages are loans that are used to purchase or refinance commercial or semi-commercial properties. In principle, commercial mortgages can be used to fund a wide range of security, including residential properties, unusual properties and even land.

The process of arranging a commercial mortgage differs heavily from residential and buy to let mortgages, with much more emphasis placed on manually underwriting the application. This means that each application tends to be looked at in more detail, and common-sense lending decisions can be made on complex cases.

Are there different types of commercial mortgages?

Yes, there is a distinction to be made between owner-occupied properties and commercial investments. An owner-occupied commercial mortgage is used to fund applications where the borrower intends to use the property for their own business.

Commercial investments are used to fund properties that are purchased as an investment, much like a residential buy to let property.

How are commercial mortgage applications assessed?

As mentioned above, applications tend to be manually underwritten and there is a lot more flexibility in lenders criteria. That said, most commercial mortgage lenders will have some set criteria and will assess applications using certain basic principles.

In general, commercial mortgage lenders will be keen to understand the basic information about a borrower including names, dates of birth and address history. For applications made by a limited company, the personal information of the Directors will be required in addition to the details of the company.

This allows the lender to understand the profile of the person who is steering the business and making the important decisions. The information needed on the applicants will usually include a summary of their assets and liabilities. In addition to the basic information on the applicants, the lender will usually require 3-6 months personal bank statements for each applicant/Director.

When it comes to assessing affordability, things differ quite heavily between owner-occupied and commercial investment applications.

Owner occupied applications will be assessed around the ability of the business to meet the repayments. Understanding this comes down to detailed assessment of the financial accounts of the business, which can give a snapshot of the trading performance and balance sheet.

On top of this, business bank statements can be vitally important as they give an insight into the cash flow and financial management of the business. A business that posts a large profit can still have poor cash flow, and for lenders this means risk.

A business that is meeting its payments as due, managing its creditors well and posting consistent results will always be a popular proposition for lenders.

Lending against an investment property is assessed against the rental income received. Lenders will want to know a number of details about the lease that’s in place and will usually want to see a copy. Although the amount of rent received is important, there are other important details such as the length of the lease and details of any break clauses.

Some lenders will want to see a lease that runs for the entire term of the loan without break clauses, whereas others may be more relaxed about a short lease.

Where there are no tenants in the property, lending may be harder to secure, as there are no guarantees that the loan will be affordable based on the rent received.

How much can I borrow and how much will it cost?

For owner-occupied applications, borrowing is available up to 80% of the property value for most industries. Even borrowing at 80%, the rates offered can be low, with rates of 3.5% and below fairly common.

Commercial investment applications are usually capped at 75% loan to value (LTV), although rates do tend to climb as the loan to value increases. Generally speaking, applications at 65% LTV tend to qualify for the lowest rates.

Of course, the maximum loan will then be subject to affordability checks to ensure the requested loan amount will fit within the lenders affordability calculations.

High street banks offer the lowest interest rates but will usually insist that the loan is repaid on a capital repayment basis. Challenger banks will usually charge a premium but are more flexible in their criteria and will often accept borrowing on either capital repayment or interest only.