Types of Commercial Real Estate Construction Loans
Developers and investors who purchase underutilized land or run-down properties must obtain commercial real estate construction loans to make the land, and any buildings on it, usable.
These development projects can range from a few thousand dollars to hundreds of millions of dollars, which makes offering construction loans risky for lenders. The type of financing a real estate development company will need depends on the type of construction project, how developed the land already is, and whether the loan will be temporary or long-term.1
How to Get a Commercial Construction Loan
Commercial development carries high risks, and getting funding can be difficult if the developer and others involved do not have a track record of successful projects.
Often a developer will have or locate the capital to buy the land or properties outright, then use that as full or partial collateral for their construction loan. If developers have other properties with sufficient equity, they can also use these as collateral.
Most commercial construction loans are obtained through banks, though companies may also seek funding from venture capitalists or private investors. There are also commercial construction loans available from government agencies and their partners.
If you are looking for a construction loan, understanding and applying for the right type of financing can increase your chances of success.
Land Development Loan
You can obtain a land development loan when you have raw or undeveloped land that needs to be made construction-ready. Once the raw land is developed, it may be subdivided and sold as a number of parcels for commercial or residential use.
Land development loans can also be used for installing sewer, water, or power lines to the site.
Interim Construction Loan
An interim construction loan is a type of short-term commercial construction loan. It is used to cover the cost of labor and materials needed for a commercial development project.
An interim construction loan is usually valid for 18 to 36 months. Since it is short-term financing, it is settled once a long-term mortgage is in place.
Mini Perm Loan
A mini-perm loan is another type of short-term commercial financing, similar to a bridge loan. This is a temporary loan typically used to settle an outstanding construction or commercial property loan on a project that, once completed, would produce income.
A bridge loan is a short-term loan intended to finance a specific need or “bridge” a gap in cash flow.
After up to seven years, the mini-perm loan is replaced with long-term financing. Mini-perm loans are normally obtained through commercial banks.5
You will need an acquisition and development loan, or A&D loan, for raw land that is ready to be developed. These loans can also be used for underutilized or run-down property that is already developed but need improvements to its infrastructure or existing buildings.
An A&D loan usually covers both the purchase of this land and the cost of any improvements needed before the development can be completed.1
A takeout loan can provide permanent financing for commercial projects where a temporary loan, such as a short-term construction loan, currently exists. Lenders may require their developers to secure a takeout loan before a short-term loan can be granted, especially to cover investments that the lender considers risky.
A new type of commercial project financing, crowdfunding brings together many smaller investors to pool funds for specific projects. Instead of approaching established banks for loans, developers can sign up with a crowdfunding platform to raise the required funds.
Hurdles still exist for many small investors who want to get involved. Many crowdfunding investment opportunities are open only to “Accredited Investors” whose net worth is at least $1 million. However, depending on the project and the crowdfunding platform, smaller or less experienced investors can find opportunities to participate.
There are specific platforms, such as Multifamily Loans and Fundable, that are used for crowdfunding large commercial projects. These sites make their money through fees paid by both the investors and the developers. As crowdfunding is becoming a more popular option, more options will open up ways for smaller investors without significant net worth to get involved and for more commercial real estate projects to find financing.