Commercial property is usually both a major investment for any business to make without having raised some form of debt finance, as well as being a large store of value that a business can use to raise cash from when needed. This article covers the different types of business property loans that are available such as commercial mortgages and bridging loans and how to go about raising a business property loan.
A wide variety of institutions including banks, building societies, insurance companies and asset based lenders provide mortgages against commercial property. These can be either ones which are owner occupied or investment properties that are rented out.
Despite the credit crunch these is still a reasonable availability of this type of funding so long as there are no major problems with either the property, such as environmental issues, or the company which means it has to have been both profitable over the prior three years in total and had no catastrophic trading losses in any one year.
Advances from banks are usually around 60% to 65% of Open Market Value (OMV) while through other funders you may be able to raise up to say 70%, depending on market conditions and the strength of your proposal.
If an applicant or a related person (which is defined as a spouse, common law partner, parent, sibling, child, grandchild or grandparent) lives or intends to live at part of a property being offered as security, and the living accommodation comprises over 40% of the property, the loan will be regulated in the same way as domestic mortgages. In this case you will need to obtain advice from an Independent Financial Advisor (IFA).
Funders will need details of the property involved and its current value as well as details of the rental income or the business’s trading performance to assess your ability to service the loan.
As an alternative to a long term commercial mortgage, there are a limited number of serious players in the commercial property bridging market. These offer short term loans, typically on a six or twelve month term, of up to 70% of OMV (or 60% on a second charge basis).
Bridging is always however expensive money and you should expect interest rates of between 1% and 1.75% per month. Against this, bridging loans can be arranged quickly and being interest only (which can also sometimes be ‘rolled up’ into a bullet payment due on redemption), can even have short term cash flow advantages over loans at cheaper interest rates.
So why take the risk? Well bridging loans can be obtained quickly and can therefore be used to raise cash in an emergency or to take advantage of an opportunity. They are also usually based on valuation rather than purchase price so can provide higher funding in situations where a distressed asset is being bought. They are also largely based simply on the underlying security value of the asset and so can be used in circumstances where a business does not have the accounts required with which to obtain a normal commercial mortgage at the outset.
Given how expensive this type of loan can be you should only ever take a bridging loan out if you have a clear idea as to how you are going to be able to repay it and you should take advice from a broker who knows the market.
Sale and leaseback
With a sale and leaseback the property is sold to an investor which allows you to realise its full value. You then lease the property back typically over 15 or 25 years on normal institutional terms with, for example, rent reviews every five years. The investor will then be looking for the rent charged to provide a reasonable yield against the price paid for it.
As an investment, this type of transaction is usually only relevant to larger properties of over say £500,000 in value, and in addition to the bricks and mortar value of the building, investors will be concerned about the strength of your business as a ‘covenant’ which means your likely ability to pay the rent into the future.
Sale and leasebacks are often very useful in MBO/MBIs and other business acquisitions, as the ability to realise 100% of the open market value eliminates the need to tie up some of the available equity in bricks and mortar, as would be needed with a commercial mortgage of say 70%.
In some cases, the actual sales price achieved can be in excess of the surveyor’s opinion as to OMV and/or the value attributed to the property in the business sale and this can result in an injection of working capital into a Newco at the outset.
For some businesses it may be possible and appropriate for the company or directors’ pensions scheme to be the investor in a sale and leaseback arrangement, raising a mortgage and purchasing the premises from the company as described above. This injects funds into the company from the realisation of the property, while the property is under the control of a known party and in some cases the pension scheme may be able to borrow more cheaply than the company can.
Pension schemes must have the appropriate structure and borrowing powers to undertake this sort of transaction so you will need to take specialist advice and assistance from an Independent Financial Advisor (IFA) with experience in this area.