Different Types of Funding for Commercial Real Estate Investments

Different Types of Funding for Commercial Real Estate Investing

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If you are new to commercial real estate investing and lack the money to pay cash for an opportunity, you still have the option of acquiring one through various funding sources. That’s one of the most attractive aspects of investing in commercial real estate - using someone else’s money!

When you see a commercial property for sale and feel confident that it can generate income (and, hopefully, make a strong investment for you), you can try applying for loans, looking into private equity, or utilizing some creative finance options.

Your Funding Options for CRE

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There are many factors you’ll need to take into account when funding your investments other than choosing the option that has the lowest interest rate. Savvy investors will take the global deal aspects into account, such as the loan-to-value or loan-to-cost ratio, origination points, amortization, and term of the loan.

Here are some funding options you can look into when purchasing a commercial property:

Bank loans

Banks offer commercial real estate loans on just about all property types. In a commercial bank loan, you can get an unlimited amount of financing, depending on the type of property and whether you meet that bank’s specific set of requirements. Banks will certainly look into your credit and personal financial strength, but they’ll primarily be digging into the actual deal - will it cash flow, will it cover the debt service, does the deal have strong investment returns, etc. 

Commercial bank loans generally cover only around 60% to 80% of the property cost, depending on the type of asset and strength of the guarantors. In rare instances, they can lend you up to 100% of the property cost, but that is highly dependent on the property’s condition and resale value and almost never happens.

I’ve found that establishing strong relationships with smaller, local banks is the best route to take when utilizing commercial banks to fund the debt on your investment. 

Private equity

You can also raise capital to buy commercial real estate through equity investors. In private equity, you and other investors pool together enough funds to purchase a commercial property. Investors will typically receive a percentage share of the entity that owns the investment and therefore a share of the income and other benefits generated from the property. These deals can be structured in any number of ways, including an LLC, GP, LP, or other.

If you are the property owner or the sponsor of the deal, you are responsible for splitting the profits with the investors according to the percentage stated in your operating agreement. Unlike loans that end when amortization is paid, private equity agreements usually stay in place and revenues are divided as long as that business is running.

You could also raise private equity to cover your down payment on the investment and utilize a commercial bank loan to cover the remainder.

Real Estate Syndication

Real estate syndication has a similar structure to private equity, but they are a bit more structured because they are governed by the Security and Exchange Commission - the SEC. Syndication investments are also not limited to real estate and can extend to other assets such as trucking or a sports team - or as my friend, Bruce Petersen, says: a snickers bar.

In real estate syndication, a deal sponsor will go out and find the opportunity for the group to invest in. They know how much money they need for funding and have (hopefully) done thorough feasibility studies on the site and it’s potential. Syndication has a very specific purpose compared to private equity, wherein investors can simply pool money together even before they know what they are investing in.

If you’d like to learn more about real estate syndication, check out this video here. 

Seller financed real estate

Seller-financed real estate deals are private transactions between the seller and the buyer where the seller agrees to finance the buyer’s purchase and carry the note on the property.

The buyer is typically still required to make a down payment and I do recommend that both parties hire professionals to draw up a contract and a promissory note. You’d be amazed at how many people will have a handshake deal or something handwritten they just throw together. This contract should include details such as interest rates, payment schedules, the term of the loan, and other consequences in case of a breach.

Transactions in this arena can move very quickly because there are no banks or other third-party financing entities involved. They can also be very advantageous for both parties - the buyer will often see better loan terms than if they went to a bank and the seller won’t get hit with a massive tax bill for capital gains all at once.

Little to no-money-down options

Buying property with absolutely no money down can be very difficult and often tricky, and you need to be resourceful and creative if you’re going to go for this option. In most transactions, you may find a way to negotiate for less money out of pocket, but you’ll still need to have at least some skin in the game. However, if you’re lucky enough, there are a few ways to pursue these investments with no money down.

As we just discussed, one way is through seller financing. If the seller trusts you enough and you can provide a very convincing income-generating proposition on the property or just give them a good enough reason to move forward with no-money-down, you may be able to seal a deal. After all - they will retain the mortgage on the property and could always just foreclose and take it back if they really needed to.

Another option is by assuming the seller’s mortgage - often called “subject-to” since you’re taking the property subject-to the existing loan. This means taking over the seller’s existing mortgage terms and paying the bank the monthly principal and interest. Most sellers will require a down payment to sell the property, but, depending on the negotiations, you just might be able to convince the seller to pay the down payment over a few months, as well. Not bad, right? 

You can also get a multi-unit property, live in one unit, and have the rest rented out. Try applying for a down payment assistance program like the 203k loan to get the property. Then the rental income can pay for your monthly amortizations. Not quite “no-money-down,” but little money out of your pocket ongoing.

Be a Problem Solver

You have many options of funding your commercial real estate investments, depending on how creative you’re willing to get with the project. At the end of the day, all commercial real estate investors are just problem solvers, so how well can you solve that next problem?

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