Finance
How Commercial Real Estate Financing Works
A commercial loan is sized from the property, the borrower, and the lender’s rules. Equity, coverage, the rate, and the maturity all move together.
Quick answer
You bring equity. A lender may advance a percentage of value or price, then test whether income covers the payment. The rate and the amortization set the payment. The maturity may arrive sooner, leaving a balloon. Recourse and guarantees decide who pays if the property does not. Shop the term sheet.
Key takeaways
- Loan-to-value describes the loan against price or value. It is not a promise of that loan.
- DSCR compares NOI with the annual payment. Lenders set their own minimums.
- Amortization and maturity are different clocks. A balloon is the gap.
- Owner-user loans and investment loans do not ask the same income question.
Equity and loan-to-value
Loan amount ÷ price or value
Equity in this simple split is the rest of the price. Closing costs can require cash on top. A lender may use an appraised value instead of the contract price.
| Input | Amount |
|---|---|
| Price | $2,000,000 |
| Loan at 70% of price | $1,400,000 |
| Equity in the price | $600,000 |
| NOI used in the example | $180,000 |
| Annual debt service used in the example | $150,000 |
| DSCR on those two figures | 1.20 |
Seventy percent and 1.20 are classroom figures so the relationships are easy to see. A lender sets its own limit. Run your own split in the equity calculator. If the appraisal comes in below the price, the loan may be based on the lower number, and your equity rises. Appraisals explain that step.
Rate, amortization, maturity, and the balloon
The note rate and the amortization schedule produce the payment. Amortization is the period that would pay the loan down to zero. Maturity is when the note is actually due. A 25-year amortization with a 10-year maturity means the payment is calculated as if the loan lasted 25 years, and a large balance is still due at year 10. That balance is the balloon. It is a refinancing risk, a sale risk, or a cash risk. It is not a footnote.
Put the rate, the amortization, and the term from a real term sheet into the loan payment calculator. The tool can show a balance when the term is shorter than the amortization. Points, reserves, and interest-only periods belong on the term sheet too.
Coverage sits beside the payment. DSCR is annual NOI divided by annual debt service. In the table above, $180,000 divided by $150,000 is 1.20. Use the DSCR calculator with your income and your payment. A result above 1.00 means the NOI you typed covers that payment, with a cushion equal to the difference. Lenders choose how much cushion they want. A passing ratio on your spreadsheet is not an approval.
Recourse, guarantees, and underwriting
Many commercial loans are recourse. If the property does not repay the loan, the borrower or a guarantor can be asked to pay. A nonrecourse structure limits that claim, often with carveouts for acts the lender still wants a person to stand behind. The note and the guaranty control. Your attorney should read them.
Underwriting looks at the property and the people. The lender reads leases, expenses, the appraisal, the title, and the environmental file. It also looks at the borrower’s credit, liquidity, and the guarantor. A strong building with a thin borrower can fail. A strong borrower with a weak lease can fail. Both sides are the loan.
Owner-user loans, investment loans, and SBA
An investment loan is supported by rent from tenants. The rent roll, the lease terms, and the NOI are the income story. An owner-user loan is supported by a business that will occupy the building. The lender may look at the company’s cash flow as well as the real estate. Occupying part and leasing part can fall between those patterns. Ask the lender which income they will count. The owner-user page is the occupancy side of that question.
Some SBA programs are designed for owner-users who will occupy the property. Eligibility, the occupancy test, and eligible uses of proceeds are set by the program and applied by a lender. Conventional bank financing is a separate path. Compare term sheets on rate, fees, recourse, amortization, maturity, and prepayment, then decide with your lender and your advisors. Bryan can help keep the property side coherent.
Questions people ask
Is 70% or 75% the standard commercial loan?
No. The illustrations on this site use round percentages so the equity is easy to see. A lender, a property type, or a borrower can produce a different figure. Use the percentage on your term sheet.
What is a balloon in plain language?
It is the unpaid balance due when the loan matures before the amortization would have paid it off. You repay it, refinance it, or sell. The payment you liked in year one does not remove that date.
Does a good DSCR get the loan?
It helps the property side of the file. The lender still underwrites the borrower, the guarantor, the appraisal, and the documents.
Can the seller finance the purchase?
Sometimes, if the owner wants that structure and the documents are done properly. Price, rate, security, and recourse are negotiated. Have an attorney draft them. It is not a default option.
Written by Bryan Robinson, a Professional Sales Agent with NHS Commercial, licensed in nebraska.
Want help evaluating a commercial property?
Call or text Bryan at 402-521-3000 to talk through a specific property.
Bryan Robinson
NHS Commercial
Professional Sales Agent | Licensed in Nebraska