Commercial Mortgages Explained
What is a Commercial Mortgage?
Commercial mortgages are term debt facilities, typically to purchase or refinance property of a commercial nature or land for business purposes. They are different to business loans in that they are secured against a commercial property.
What Are The Different Types Of Commercial Mortgage?
Commercial mortgages can be split into two types:
- Finance for commercial investment
Finance for own business use, otherwise known as owner occupied funding
We will look at these in more detail.
Mortgages For Commercial Investment:
Houses of Multiple Occupation (HMO’s) is a term used by the Government to describe a dwelling where there are 3 or more tenants, not from the same household, living with a shared space (ie shared bathroom or kitchen).
In order to operate an HMO; licensing from the local authority may be required. This is mandatory for properties of five or more tenants, although some local authorities require licences for properties with fewer tenants (known as ‘selective licensing’).
HMO’s are popular with landlords as they tend to achieve a higher yield than traditional buy-to-lets, but will typically come with increased operating costs.
Not all lenders are keen to offer HMO mortgages as they attribute higher risk than traditional buy-to-let mortgages. Given the complexities involved, and the individual nature to each case, this is where a broker can add real value in securing the best possible funding.
Multiple Unit Blocks
Multiple units (also known as multi unit freehold blocks) are separate residential units that are held under the same title. Types of property under this remit are commonly purpose built flats, houses converted into flats and multiple houses that are held under the same freehold.
Each dwelling would typically have its own AST agreement, separate entrances and private areas that are not shared with other residences. Shared areas would be limited to spaces such as gardens.
Multiple units are popular with landlords as they generally achieve a higher gross yield than typical buy-to-let’s. Lenders criteria on what they will and won’t lend on varies greatly and therefore a broker with specific knowledge of this market is hugely valuable in ascertaining the best funding on a case by case basis.
Also known as residential investment mortgages, put simply a buy-to-let is where a landlord owns a residential property with the purpose of renting it out to arms length tenants for profit.
Buy-to-let mortgages are typically interest only serviced from the net monthly rental income. Funding is primarily evaluated on the property’s affordability i.e. how much rent it will generate. Other factors are considered involving the landlord’s specific circumstances such as their credit conduct, income, age and deposit. The property type will also be considered.
Each lender will have their own criteria for lending, for example some will not lend to credit impaired applicants due to credit conduct. Lenders will typically require a deposit of at least 15%, although again this is lender specific.
Buy-to-let’s can provide sound long term investment if the correct property is selected, especially given the general trend of property prices over the long term. There are, of course, potential risks associated with this type of investment such as maintenance costs, the risk of the property being vacant and additional costs such as letting fees.
Semi Commercial Mortgages
A semi commercial mortgage would be sought where the property has both elements of commercial and residential dwellings, otherwise known as a mixed use property. The types of property that fall into this category would be a restaurant with self contained residence, blocks of flats with commercial units or a shop with flat above it, subject to there being separate street access.
Lenders will typically loan up to 75% Loan to Value (LTV) but can be higher. If extra security is offered some lenders will loan up to 100% LTV. Although it is a semi commercial mortgage, lenders treat it as a commercial proposition.
How lenders appraise semi commercial mortgages varies massively and can be confusing. Whilst all properties with mixed use regardless of the percentage split, would require a semi commercial mortgage, how lenders interpret this can vary. If there is a separate access to the residential property via its own entrance, meaning you don’t need to go into the commercial space, some lenders will offer two separate mortgages. However this can give rise to issues when there is shared accountabilities such as the roof. This is why using a broker with the an expert knowledge of the market is important to help borrowers understand what is best for their situation.
Lenders will assess the appetite to lend based on a number of factors. These will typically be:
- Affordability - i.e. whether the individual or business’ income can cover the cost of the loan
Deposit - typically the minimum required is 25%
Experience - some lenders require a proven track record.
Whether the property will be owner occupied (the borrower will operate from the property) or used as an investment.
Semi commercial mortgages can be a minefield in order to get the correct funding in place. Montpelier Private Finance has particular experience in this market and can assist in the most complex of cases, including those best suited to the challenger banks.
Also known as a commercial investment mortgage or a commercial landlord mortgage, this is where a commercial property is purchased to be rented out to one or more businesses. There is no residential element to these mortgages.
The scope for such mortgages are so wide that criteria and rates are very much dependent on each case. For example, a commercial buy-to-let mortgage may be applicable for an AirBnB, a high street shop or an industrial unit. A broker with specific knowledge of this niche market is almost certainly required. Many lenders in this market do not lend directly to landlords and only operate within certain industries.
Anyone applying for a commercial buy-to-let mortgage can expect rates to be based on:
- The commercial tenant you have (or intend to have)
The deposit amount being put forward, typically 25%+ (and therefore LTV ratio)
Your experience as a commercial landlord
Your credit history
Company trading history and financial (if applicable)
The value of the property
This is an area that Montpelier Private Finance specialise in to be able to assist you in finding the right product.
Commercial Owner Occupied Mortgages
This is where the owner of the property is also operating their trading company from the premises. Generally finance will be sought because:
The borrower wishes to purchase the site their business is currently operating from.
The borrower wishes to purchase a new site for their business to operate from
The business wishes to refinance an existing owner occupied mortgage.
Lenders, in assessing the levels of borrowing, will generally evaluated the financial position of the trading business and the value of the security provided by the property itself (plus any further security property that may be offered).
In assessing the financial position of the trading business lenders will commonly calculate the EBITDA (earnings before interest, depreciation and amortisation), to give an adjusted net profit. Lenders will expect to see that this figure is at least a certain percentage above the annual mortgage repayments either by way of interest rate offered or a ‘stressed interest rate’.
In assuming that the loan is deemed affordable lenders will typically lend 60-80% of the freehold value potentially including an element of goodwill (the assumed value given to a business based on the attractive force that generates its income). There are specialist lenders that will loan up to 13 times EBITDA (typically is 5-7) but this is where lenders predominantly look at the value of the freehold as apposed to the going concern. This only goes to demonstrate that the specialist knowledge of an experienced broker can make all the difference in securing the right funding for a borrower.
What Are The Costs Involved In Commercial Mortgages?
Rates will vary due to a number of factors. Typically these will be:
- Loan to value
Financial strength of the trading business
Assets and liabilities of the applicant
The length of the lease and quality of the tenant (for investment properties)
Owner occupied mortgages tend to come with a slightly lower rate than investment mortgages because lenders generally deem these to have less risks attached. That said rates for owner occupied mortgages can start at 2.25% but dependent on risk go as high as double digits!
Commercial investment mortgages tend to start at about 2.75%, again dependent on risk.
Types of Rates and Terms
Both fixed and variables rates are offered with commercial mortgages.
Fixed rates generally start from 2 years. They are generally set on a case by case basis, although some lenders do offer set fixed rates. Fixed rates tend to be slightly higher than variable in exchange for the security of knowing what you will be paying.
Variable rates generally track one of two major rates, the Bank of England Base Rate (BBR) or the London Inter-Bank Offered Rate (LIBOR). A lender will then set the rate above this dependent on the risk they believe is associated with the application.
Commercial mortgages are typically arranged for 2-30 years. Mortgages will be capital repayment or interest only. For investment mortgages it is worth noting that lenders will sometimes cap the length of the term dependent on the length of a lease, to coincide with its expiry.
Commonly also known as a facility fee, this is a charge by the lender for arranging the loan. Lenders typically charge up to 2%.
The fees for both the borrower and the lender, in arranging the finance, will typically be charged to the borrower.
All lenders will require a valuation to be carried out. Where charged the borrower will have to pay for the valuation as an upfront fee rather than the cost being added to the loan. This is paid direct between the borrower and the lender or surveyor.
Most lenders charge a small admin fee to complete the required paperwork.
Brokers may charge a fee for arranging the loan which helps to ensure complete independence in any advice given.
What Loan To Value Can Be Achieved?
Lenders set their own limits on Loan To Value (LTV) and many are industry specific. For example, a GP practice may achieve 100% LTV whereas a retail unit may be limited to 70% LTV.
As a general rule owner occupied mortgages attract a higher LTV (up to 80% LTV) whereas investment mortgages tend to be no higher than 75% LTV. Typically the higher the LTV, the higher the interest rate will be.
In calculating the value of the property there are a number of calculations that different lenders work to:
- Open market value (OMV) - The perceived value of the property should it sell on the open market.
180 day value - The value should be the property be a forced sale within the stated period.
90 day value - The value should the property be sold in a forced sale situation. This accounts for the likely discount on price that would come with the associated time pressures.
Investment value - This only concern commercial investment mortgages, and is directly linked to the strength of the tenant and the length of the lease. For example a renowned company with a long lease will attract a higher value than a new business start up with a shorter lease.
Going concern value - This is for owner occupied mortgages, and takes into account the strength of the ongoing business in the property and assigns a value to it. For example, an restaurant with a proven track record will attract a higher value than a property that has sat vacant for the last year.
These variations can throw up big differences in the LTV offered by lenders so it is important to understand how the property is being valued.
What Documentation Is Required For A Commercial Mortgage Application?
Although not an exhaustive list, applications will generally require the following:
- Completed application form
Proof of ID, address and income
Copy of the clients credit profile
Assets, liabilities, income and expenditure summary
3-6 months of personal and business bank statements
Financial accounts for the last 3 years
Lease agreements and details of tenants
Details of any significant changes to future turnover or profit
How Can Montpelier Private Finance Help?
Our Knowledge - With our expertise we will help you cut through the myriad of options to be able to make a well informed decision on what is the right funding for you. We will help you understand the whole picture not just the top line rate.
Our Experience - We know what makes a good application. It is a common mistake that applicants will try and embellish their figures or experience to gain funding. Accuracy is essential in an application, and we will help ensure it is then presented as clear and well thought through.
Our Reputation - We are trusted by lenders to carry out thorough due diligence, meaning that when your application reaches them you are already at an advantage in successfully gaining your funding.
Commercial Mortgage Solutions
HMO mortgages (both small (<6 people) & large with no maximum)
Multi Unit Block mortgages
Buy To Let mortgages
Residential Investment mortgages (high value low yielding prime assets)
Semi Commercial & Commercial mortgages
Commercial Owner Occupied mortgages
Interest only available up to 85% LTV for Residential Investment assets
Interest only available up to 75% LTV for Semi Commercial & Commercial assets
100% LTV available with additional security
No maximum loan
Personal, Company, Trust, Off Shore, Domicile and Non Domicile options available
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Our client secured a long term semi-commercial mortgage at 70% loan to value despite the debt service cover ratio (affordability calculation) not supporting this level of gearing based on published rates/pricing.