If you’re looking to purchase a commercial property, you’ll most likely have plenty of questions. One of the biggest often being ‘how much deposit is needed for a commercial mortgage?’
In this guide we’ll give you a breakdown of how commercial mortgages work, as well as answering some key related questions.
What we cover in this article:
- Do I need a commercial mortgage if I work from home?
- How does a commercial mortgage differ from a residential mortgage?
- How much deposit will I need for a commercial mortgage?
- Can I get a commercial mortgage without paying a deposit?
- Does the amount of the deposit on a commercial mortgage affect my interest rate?
- Is there anything else to look out for when taking out a commercial mortgage?
- Are there any alternatives to taking out a commercial mortgage?
Do I need a commercial mortgage if I work from home?
If you take out a residential mortgage, you are borrowing money for a home to live in – not a place to do business. Running a business from your home will typically be considered a breach of your mortgage conditions and could lead to repercussions from your lender – up to and including a demand for immediate repayment of your mortgage in full.
There are caveats here. If you are self-employed and happen to work from home, your home office won’t be an issue. Equally, you will be entitled to be a self-employed sole trader that happens to work from home, with your business model simply revolving around taking telephone calls and working with a computer.
Suppose you are looking to use your property to trade directly, such as using your home as a bed and breakfast or selling consumer goods to a stream of browsing customers. In that case, your lender is far more likely to take issue. In this situation, specialist advice should be taken and a commercial mortgage will become more suitable. There is no fixed cut off between residential and commercial mortgages, so a common sense judgement is often the best way to decide.
How does a commercial mortgage differ from a residential mortgage?
The core differences between a commercial and residential mortgage are:
- The term of a commercial mortgage is often shorter than a residential mortgage. While the latter usually runs for 25 or 30 years, many commercial mortgages are capped at 15-20 years.
- Commercial mortgages often have higher interest rates than residential mortgages, as they are considered higher-risk loans by lenders.
- Commercial mortgages generally come with higher set up costs, including higher arrangement fees, valuation fees and legal costs.
- Commercial mortgages are not offered based on a set formula, such as the “four times annual salary” rule often attributed to residential mortgages. The maximum borrowing will depend on your unique circumstances.
- While residential mortgages are closely monitored and regulated by the Financial Conduct Authority, commercial mortgages are subject to considerably less outside regulation
The required deposit is perhaps the most significant difference you will encounter when taking out a commercial mortgage compared to a residential one. Due to the risks involved with commercial mortgages, lenders will insist upon a larger deposit than they would for a residential mortgage.
How much deposit will I need for a commercial mortgage?
Like a residential mortgage, your lender will set a maximum loan-to-value (LTV) ratio against the property you wish to mortgage. This means the lender will get the property valued and agree to lend you a set percentage of this sum. The rest will need to be covered by a deposit.
Unlike residential mortgages, which can sometimes be secured with a deposit of as little as 5%, commercial mortgages are rarely offered with a loan-to-value rate above 75%, meaning a deposit of 25%. Depending on the nature of the business, and your personal and professional financial histories, your required deposit could be as much as 40%.
If you have identified a commercial property priced at £250,000, the deposit you need would be:
|LTV Ratio||Deposit Needed||Mortgage Sum|
A commercial mortgage broker will help you to find the best deal. Many will charge a fee for their services, often around 1-1.5% of the loan amount – although we don’t charge broker fees for loans over £100,000. This will potentially save your business a great deal of money over the entire term of your mortgage.
Can I get a commercial mortgage without paying a deposit?
Yes, 100% loan-to-value commercial mortgages exist, but they are extremely specialist and rarely offered. You may be able to get a 100% commercial mortgage if your business operates in the medical industry, or if you can offer significant additional security over another property.
Speak to a commercial mortgage broker if this option interests you, but ensure you are fully aware of the financial implications of such an arrangement. Higher LTV loans can be costly and leave little room for error.
Does the amount of deposit needed differ depending on the type of commercial mortgage?
Yes, the business that you are looking to take out will influence the deposit you are expected to pay. Lenders always look to minimise risk to their investment as much as possible. Business ventures considered lower risk will be granted a mortgage with a lower deposit, while higher-risk endeavours will demand a larger deposit to ensure a smaller loan.
Examples of a low-risk business could include:
- A greengrocer, butcher, bookstore, or other commercial ventures considered essential. This kind of business will likely have low overheads and high customer turnover – assuming they are not competing directly with a supermarket three doors along!
- A beauty salon or hairdressing parlour. These kinds of businesses will always be needed, and will always attract customers – again, provided competition in any area is not too fierce
Examples of a high-risk business could include:
- Opening a pub, restaurant, or B&B. These undertakings have high overheads and struggle to turn a profit in the current economic climate. As such, specialist hotel mortgages are required.
- A marketing agency or similar business that will take several years to become profitable as you build your reputation. Can you keep up with your mortgage payments in those tricky early days?
- Shopfronts that specialise in luxury consumer goods or big-ticket items. These business models rely heavily on a small target audience spending big to provide profits. If your core audience stops propping up your business model, the gap will be tricky to plug
If you are looking for a commercial mortgage on a high-risk business, spend plenty of time on your business plan – ideally seeking help from a professional – so you can calm any fears a lender may have about your ability to keep up with repayments.
What factors affect the amount of deposit required for a commercial mortgage?
Many factors influence the required deposit when taking out a commercial mortgage. Factors are play will include:
- Your credit history, both personal and your business.
- The nature of your business. A venture that is considered high-risk, such as a start-up pub or a restaurant, will likely be considered considerably riskier than a well established solicitors practice.
- Your business plan. Do you a robust plan for the future of the business, thus assuring the lender that you will not struggle to make repayments?
- Your experience in business. An experienced businessperson with a proven track record of success will be considered much lower risk than a novice, or person who is new to an industry.
- Affordability of the loan, based on the turnover, net profit and EBITDA in your business’ accounts. This will include profit-and-loss calculations, tax, and your resilience in the event of unplanned expenses and external circumstances
The golden rule of commercial mortgage deposits is that the safer a bet you are as a borrower, the lower the expected deposit will be.
Does the amount of the deposit on a commercial mortgage affect my interest rate?
Yes, your interest rate will be directly influenced by the sum of your deposit. In the eyes of lenders, the lower the loan-to-value ratio, the lower the risk.
If you can afford to pay a larger deposit, you will pay less on your commercial mortgage overall. The total loan will be smaller, meaning lower monthly repayments, and you will likely be offered a lower interest rate.
Is there anything else to look out for when taking out a commercial mortgage?
Another critical consideration when applying for a commercial mortgage is the valuation method used by the lender.
Some lenders base their valuation on the open market value, while others operate with 180- or even 90-day value.
As the total value of the property will significantly impact the full repayment – and the sum of the deposit you will be expected to lay down in advance – ensure the valuation is considered fair and reasonable before committing to a mortgage.
Are there any alternatives to taking out a commercial mortgage?
If you cannot find a commercial mortgage with an interest rate that suits you, or you’re unable to raise the funds necessary for a deposit on a property, you could consider a business loan. This could be an option for an entrepreneur looking to launch a start-up business but lacks the capital to pay a deposit.
Business loans could be unsecured, which provides you with a little more security but will cap your borrowing potential, or they could be secured against a personal asset – usually your home.
Secured loans will typically allow you to borrow higher sums and will likely have a preferential interest rate when compared to their unsecured counterparts, but they should only be considered if you are confident your venture will succeed. If you fail to maintain the repayments on a secured against your home, the lender has the legal right to repossess your property or take you to court and force you to sell it to finance your debt. Alternatively, if you’re looking for suitable premises but can’t get a commercial mortgage, renting is the best option. It will give you a base of operations and will allow you to build your financial position. This will give you an opportunity to try again when appropriate to do so.