Commercial Construction Loans: What They Are and Where to Get One

Commercial construction loans can be an excellent way for businesses to finance the construction of new facilities or the expansion or renovation of existing ones. However, knowing where to start when looking for a commercial construction loan can be difficult. Here’s what you need to know about commercial construction loans and how to find competitive terms.

What Are Commercial Construction Loans?

Commercial construction loans are a type of loan used to finance the construction of commercial properties. Banks or other lending institutions typically issue these loans, which can finance the construction of office buildings, retail centers, warehouses, and other commercial properties.

The two main types of construction loans are:

Standalone Construction Loans

Construction mortgage loans are a type of loan used to finance the construction or renovation of a building. While standalone construction loans often come with lower interest rates due to their shorter terms, borrowers must apply for a separate permanent loan when construction ends. This comes with twice the closing costs and may result in a higher interest rate down the line. 

Construction-to-permanent Loans

Like construction mortgage loans, construction-to-permanent loans finance construction. In contrast, a construction-to-permanent loan automatically converts into a permanent loan when construction is complete—without additional closing costs. Rates are locked in during initial underwriting but are often higher than conventional construction loans.

How Commercial Construction Loans Work

Commercial construction loan funds are disbursed in draws that are coordinated with construction milestones. In some cases, inspections are required before funds are released to confirm the loan is used according to the agreement. Construction loans are interest-only, meaning the loan principal is not paid down during the term. Instead, the loan principal is paid off when the loan matures.

Terms are typically short—one to three years—after which the loan converts into a mortgage, and the borrower pays the principal down over time. With a standalone construction loan, the borrower must apply for a separate loan after construction ends. 

Commercial Construction Loan Requirements

To qualify for a commercial construction loan, provide documents about your finances and the proposed property. For example, you may need to submit detailed blueprints or schematics of the building and information about the contractor performing the work. Also provide a schedule detailing each stage of the construction process and related deadlines. Other commercial construction loan requirements may include:

  • Personal financial statement
  • Business financial statements
  • Business tax returns for the past two years
  • A copy of your business license

How Much Do Commercial Construction Loans Cost?

The cost of a commercial construction loan varies based on the project’s size and scope and the loan terms. Interest rates for commercial construction loans are typically higher than traditional mortgage rates, so you can expect to pay more in interest over the life of the loan. You may also pay points upfront to secure the loan, with one point equal to 1% of the loan amount.

Commercial Construction Loan Rates

Commercial construction loan rates typically start at around 4% and go up to 10%. The exact rate you qualify for depends on several factors, including the lender, type of loan, and terms.

  • Prime rate. The prime rate is the rate banks charge their best customers for loans. It’s generally about 3% higher than the federal funds rate. The current prime rate is 5.50%.
  • Loan type. The type of loan you get will also affect your interest rate. For example, construction-to-permanent loans usually have higher rates than standalone construction loans.
  • Loan terms. Loans with shorter repayment terms tend to have lower rates than loans with longer terms. Likewise, loans with adjustable rates usually have lower initial rates than fixed-rate loans, though adjustable rates can increase significantly.

When shopping for a commercial construction loan, compare rates and terms from several lenders. Also, ensure you understand all the fees associated with the loan before agreeing to anything. In addition to origination fees and other lender costs, you’ll need to cover expenses for title work, appraisal, and other stages of the underwriting and acquisition process.

Commercial Construction Loan Lenders

Commercial construction loans are available from most major banks and lending institutions. Alternatively, you can go through a specialized construction lending company or speak with a mortgage broker or real estate agent to find lenders that offer commercial construction loans.

Banks and Credit Unions

Local and regional banks are an excellent place to start when searching for a commercial construction loan. These lenders typically have experience working with businesses in their area, making the loan process go more smoothly. Also consider credit unions. These lending institutions are often more flexible than banks when approving loans and may offer lower interest rates.

Hard Money Lenders

If you’re having trouble finding a bank or credit union that offers commercial construction loans, consider a hard money loan. Hard money lenders are private individuals or companies that lend money for real estate projects. These loans are more expensive than traditional ones but can be easier to qualify for and are faster to fund.

Small Business Administration 

The Small Business Administration offers a variety of programs and services to help small businesses, including financing for construction projects. For example, SBA 504 loans can finance the construction, improvement, and modernization of commercial buildings, including factories, warehouses, and office space. Loans are available for up to $5 million. 

Likewise, SBA 7(a) loans range up to $5 million and can be used for the construction of a new building or renovation of an existing building.

Commercial Construction Loan Alternatives

Commercial construction loans can be difficult to obtain and often come with high interest rates and restrictive terms. Consider an alternative if you’re struggling to get a commercial construction loan from a bank or credit union. 

  • Commercial mortgages. A commercial mortgage is a loan used to finance the purchase or refinance of a commercial property, such as an office building, shopping center, or industrial warehouse. Commercial mortgages usually last five to 10 years with 15- to 25-year amortizations.
  • Business lines of credit. A business line of credit is a revolving loan that provides working capital for your business. You can use the funds from a business line of credit to finance construction projects, pay for inventory, or cover other short-term expenses.
  • Equipment loans. An equipment loan can be used to purchase equipment, machinery, or vehicles for your business. Borrowers repay these loans over two to seven years.
  • Working capital loans. A working capital loan is a short-term loan that funds everyday expenses, such as inventory, payroll, and rent. These loans are typically paid back over one to two years.

Commercial Construction Loan FAQs

Is a construction loan harder to get than a mortgage?

A construction loan is usually harder to get than a mortgage, and the application process is more complicated. Because these loans are a more niche lending product, not as many applicants are approved. To qualify for a construction loan, a business must demonstrate good collateral and the ability to repay the loan. 

What can a commercial construction loan be used for?

Commercial construction loans can be used for various purposes, including purchasing or constructing a commercial property, renovating or expanding an existing commercial property, and purchasing land for commercial development.

What down payment will I need for a commercial construction loan?

The down payment on a commercial construction loan can vary depending on the lender and the loan terms. However, it’s usually required to be between 10% and 30% of the total loan amount.

Can I use my existing home as collateral for a construction loan?

Some lenders will allow you to use your existing home as collateral for a construction loan. This can help you avoid making a sizeable down payment or liquidating your assets. However, using your home as collateral comes with risks. If you cannot make payments on the construction loan, the lender could foreclose on your home.

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