Understanding Commercial Mortgage Rates
Rates can vary depending on a number of different factors. The main considerations in pricing an application are the following:
- Loan size
- The length and quality of the tenant and lease (for investment properties)
- The type of lender (and their pricing structures)
- The loan to value ratio (LTV)
- Your credit history
- The financials / strength of the business
If your business is established and affordability comfortable, you will generally benefit from a lower interest rate. If you’re planning on using the property as premises for your own business, the interest rate is likely to be lower than if you intend to let the property.
Owner occupied commercial mortgage rates can vary from around 2.25% and go all the way up to 18%. Most loans come in between 2.75% and 7%. Generally speaking, the higher the risk, the higher the interest rate charged.
Commercial investment mortgages come in at slightly higher rates. Particularly strong applications can come in at a rate of 2.85%, or even lower. The majority of loans will cost between 3.5% and 6%.
Investment properties tend to represent a slightly higher risk to commercial mortgage lenders, which is reflected in the slight increase in rate.
Interest Rate Types
Commercial mortgage rates can be either fixed or variable. Fixed rate loans are available for anything from two years right up to the length of the loan. Fixed rate commercial mortgages tend to be slightly higher than variable rates.
Many lenders price each fixed rate loan individually, meaning an instant quote is not always possible. Some, such as Shawbrook Bank and InterBay Commercial, have a set fixed rate, although they tend to be the exception rather than the rule.
Variable rates generally track to one of two major rates, the Bank of England Base Rate and LIBOR.
- The Bank of England Base Rate is the most commonly used interest rate in the UK. It is reviewed monthly and is controlled by the Monetary Policy Committee.
- LIBOR (London Inter-Bank Offered Rate) is a global benchmark rate and is often used in commercial lending in the UK.
Neither rate is particularly volatile. In general, you will not see a huge difference between borrowing that is attached to either rate as the lender will price the loan at a suitable margin to suit their perceived risk.
Commercial mortgages are generally subject to the following fees:
Lender Arrangement Fee
The lender will charge this fee for arranging the loan. It is usually payable on completion and is often added to the loan, meaning you don’t have to make the payment out of your pocket upfront. Lender arrangement fees are usually between 0.75% – 2.5%
Some lenders will charge a commitment fee on acceptance of the formal mortgage offer. This is usually 0.25% and is deducted from the arrangement fee.
Commercial mortgage lenders insist that the property is valued by one of their panel valuers. Unlike a residential mortgage, the fee is not usually payable upfront. It is generally paid once an offer has been issued subject to valuation.
We always give our clients the option of paying the valuation fee as late in the process as possible. This is to ensure everything else is agreed fully before you have to start paying out fees, minimising the risk of our clients wasting money. Commercial valuations are more complex than their residential counterparts, meaning fees are usually higher
Most brokers charge fees of 1% or more for arranging commercial mortgages. At ABC Finance Ltd, we don’t usually charge fees on applications above £100,000, if we are being paid by the lender.
Commercial mortgage applications are more complex than residential mortgages and as such the legal fees tend to be higher. In addition to your own legal fees, commercial mortgage lenders usually require separate legal representation, which is paid for by the borrower.
What Loan to Value Will I be Able to Achieve?
Certain lenders will restrict the maximum loan to value (LTV) in certain sectors. For instance, a GP practice is allowed to borrow up to 100% LTV with certain lenders, whilst a pub is likely to be allowed a maximum of 70%.
When looking to take out an owner-occupied commercial mortgage, most industries are able to borrow up to a maximum of 80% LTV. Interest rates can still be very low up to this level, with 80% commercial mortgages at under 3.5% not uncommon.
For commercial investment properties, the absolute limit is likely to be 75%. It’s worth noting that interest rates will tend to increase the closer you get to this figure. The lowest interest rates tend to be available up to 65% LTV for commercial investment.
When working out the value, there is a distinction to be made, as different lenders work to different figures. Here are the main valuations that a lender can work to:
- Open Market Value (OMV) – The open market value is the price a property should sell for in the open market between a willing buyer and seller. This method calculates the figure on the assumption that there is no compulsion or desire to pay more or less than the true worth of the property when vacant.
- 90 Day Value (the 90 day forced sale value) – This is the value that the property would be expected to sell for in a forced sale situation. It allows for the discount applied for a quick sale and will come in lower than the above methods.
- Going Concern Value (for owner-occupied applications) – This method takes into account the value of the ongoing business in the property and assigns a value to it. For example, a public house with a good name locally and a regular stream of customers has more value to a potential buyer than a pub which has sat vacant for many years. This value is very real to a buyer but a lender may not be willing to lend against it as it is intangible and could be eroded quickly if mismanaged.
- Investment Value (for commercial investment applications) – This assigns a value to the strength of the lease and tenant in the property. It allows for the future income expected from the lease and generates a premium over the open market vacant possession value.
These methods of valuation can throw up significantly different figures, meaning the loan to value method generates different maximum loans. It is important to understand what method is used for the commercial mortgage you are looking at before paying for the valuation.
A difference in valuation method could create a significant disparity in the amount of deposit needed to complete the transaction.
Commercial Mortgage Terms
The maximum term offered varies between industries. In general, commercial mortgage lenders will accept a maximum term of 20 years, with some going as high as 25 years. This term is shorter than most residential mortgages. As a result, your monthly repayments are likely to be slightly higher than a residential mortgage of similar size.
With commercial investment property, some lenders match the lending term with time remaining on the lease. For example, if the tenant has 10 years left on the lease, a maximum of 10 years would be offered by some lenders.
For capital repayment mortgages, the shorter the term of borrowing, the less interest is paid per pound borrowed. The interest saved can be significant, so shorter loans can be beneficial, as long as the repayments are affordable.