Unless you are sitting on a pile of cash, the purchase of your buy and hold properties are going to have to be financed through some type of loan. The first few loans for your investment properties are relatively easy to get. We will call these types of loans “traditional” financing. Just shop around with any bank or mortgage broker and they will likely be able to help you buy that first, second, third and perhaps even fourth rental property.
After that, getting “traditional” financing becomes much more difficult. Most “traditional” lenders will cut you off. They will tell you that you no longer fit their criteria. You have “too many” properties. The real problem is they cannot sell these loans on the open market. But you want to keep investing and growing your business. You would eventually like to quit your “real” job. So what can you do?
What are Commercial Loans?
One thing you can do is try can get commercial loans. These loans are different from more “traditional” financing and can help the smaller (and larger) investor grow their investing business. Commercial loans are different from more “traditional” sources of funding in several ways.
- Commercial loans are generally found at smaller, community banks.
- Commercial loans are often held in the bank’s own portfolio, rather than bundled and sold on the open market to Freddie Mac or Fannie Mae for example.
- Commercial loans offer much more flexibility with ownership, property type and number of properties owned. With commercial loans, you can actually title properties in your LLC for example. You can’t do that with “traditional” financing.
How to Get Commercial Loans
Commercial loans used to be very easy to get before 2008. Now they are much more restricted, but things seem to be loosening up just a little. Your best bet these days is to get a referral from another investor who is already working with a particular bank. This is another reason why local REIA’s can be a big help. Plus you need to know your numbers and some “banker speak,” but that is a topic for another time. If you can get a commercial loan, here are some key points to remember.
- The interest rates are higher. No more 3% rates. Rates will be closer to 6 or 7% or more at the time of this writing. So be sure to update your cash flow analysis.
- Amortization will be shorter. Gone are those 30 year amortization schedules. 15 and 20 year schedules are the norm. This will increase the amount of interest and principal paid every month, so again adjust your cash flow analysis.
- There will likely be a balloon payment or a call. This means that the loan balance is due in a very short time, usually 3 to 5 years. So while the payment schedule may be determined by a 20 year amortization rate, at the end of 5 years the balance is due and you will have to pay or refinance the loan. You need to have a plan to deal with what one investor I know calls “this slow moving bullet.”
I wish we investors could get all the 30 year fixed rate loans we wanted. But that is just not the case. One option after you have exhausted the “traditional” source of financing is the commercial loan. Commercial loans are a great tool for your investment business, just be aware of the terms going in.