Building a commercial real estate project typically requires a huge amount of capital. Few enterprises have the capital readily available to fund a project themselves. Getting a commercial real estate loan and understanding how they work is crucial for anyone in the commercial real estate business.

Fortunately, understanding how these loans work and how to choose the best type of loan for your project is not all that difficult if you have the right team of professionals working with you.

What Is a Commercial Construction Loan?

A commercial construction loan is a type of business loan that is used to finance the construction or renovation of a commercial real estate property. Rarely will a company have the funds available to pay for such a project with cash, therefore a loan of this type is used in almost every commercial real estate construction project.

Commercial construction loans typically require detailed construction plans in underwriting, therefore before a loan is applied for, a construction management company will need to be consulted to complete formal plans.

Types of Commercial Construction Loans

There are several different types of commercial construction loans available and each has their own specific purpose. Banks that offer commercial loans typically require a down payment of at least 10%, although it is often higher and depends on the underwriting completed by the bank. Most loans have a 25-year term and may come with fixed or variable rates. On variable rate loans, the rate is usually fixed for the first few years, and then may adjust later if rated decline or rise.

The Small Business Administration is a common source of commercial construction loans as well. Often the down payments are less and they will have competitive interest rates as well.

One popular loan from the SBA is the CDC/504 loan. Loan amounts may be up to $5 million and have a term of 10 or 20 years with interest based on the U.S. Treasury rates. The down payment is between 10% and 30%, with the property being held as collateral. The owner or owners of the business must personally guarantee the loan, regardless of business creditworthiness. 

The funding comes from an SBA-certified development company for 40% of the project’s costs, and another lender must be found for 50 percent of the costs, with the borrower making at least 10% down payment.

The SBA 7(a) loan is available for construction or purchase of commercial real estate. The cap on lending is again $5 million, but with repayment up to 25 years. Interest for this loan is usually the prime rate plus 2.75%. A down payment is between 10% and 20%, and the credit score of the borrower is checked as well.

Commercial Real Estate Loans in This High Interest Rate Environment

Interest rates have increased significantly throughout the year and while it does appear that inflation may be peaking, it is likely the interest rates will continue to rise at least into the early part of 2023.

So does it make sense to take on a construction loan when interest rates are so high?

The best way to make that decision is to put everything in the proper context. While interest rates are indeed higher than they were a year ago, by historical standards they cannot be considered high at all.

Rates had been held artificially low during the pandemic in order to keep the economy running during that unprecedented period. Rates have simply risen to the historical average; they are not high nor do any expert economists expect that they will rise much further.

More importantly, when looking at commercial real estate, rents tend to rise faster than interest rates in times like these. While high interest rates do add to the cost of purchasing and building commercial real estate, the increase in rents tends to more than make up for the extra costs. Quite often, periods of higher interest rates have proven to be the most profitable times to invest in commercial real estate.

If you are considering undertaking a commercial real estate construction project in or around Las Vegas we have been involved in the real estate industry for years and would love to help you see your project to completion. Feel free to contact us if you have any questions.