“Buy land, they’re not making it any more”, once wrote Mark Twain, but this is easier said than done for investors struggling to fund the commercial property soft deposit they need for their purchase.
The current commercial property market presents borrowers with a frustrating paradox.
On one hand, the boom in ecommerce is fuelling the need for real-world storage and production facilities, yet on the other, the pandemic sucked the life out of the lending market.
In 2020, a peak of $16 billion in quarterly loan originations dropped by 75% overnight, a body blow the market is still struggling to recover from.
In light of this and ongoing economic volatility, real estate entrepreneurs may find their route to property acquisition blocked by a number of obstacles, including:
Yet, while the struggle to raise a soft commercial deposit and meet other lending criteria might be disheartening, tough times often lead to opportunities.
According to JP Morgan’s Commercial Real Estate Outlook for 2023, the economic downturn means that many building owners are overleveraged, which means that property investors who can meet lending demands have a unique opportunity to acquire discounted properties to add to their portfolio.
Knowing the best ways to raise funds for ‘soft’ deposits – and indeed to cover the shortfall in loan-to-value finance in general – then looks to be a useful tactic when it comes to commercial property acquisition.
This article explores the loan options open to real estate investors in the current market and takes into account the important features of each one, including repayment terms, credit scoring and the loan application process.
Ready to find out how you can raise a soft commercial real estate deposit with no credit checks and low interest rates? Duckfund’s easy application process can get you a soft deposit loan in just 48 hours.
What is a soft deposit for a commercial property loan?
Before we look at ways to finance a soft deposit, we should first clarify what one is.
Put simply, a soft deposit is a refundable down payment that a buyer puts down to show they’re serious about purchasing a business property, such as an office building or multi-family residence that can be converted for commercial use.
Also known as a good faith deposit, the investor has the right (not the obligation) to buy the property at the agreed price once due diligence is completed. This also means they can also claim the money back should the deal fall through.
Commercial property loan deposits like this have increased in popularity in a competitive real estate market as they help sellers (and mortgage lenders) pick out serious investors from a crowd of interested parties.
The ability to raise a commercial property loan deposit may be a useful way of demonstrating buyer willingness, but obtaining one from a third party can be trickier than for residential mortgage deposits.
Indeed, residential mortgages have actually increased sharply since the pandemic, outstripping their commercial equivalents along the way, according to US analyst firm RCA.
Tough lender conditions are contributing to this lack of growth.
First, commercial lenders will want to assess your business’s finances, as well as (or instead of) your personal funds. This may paint a misleading picture of your business’s health: you might be asset-rich but cash-poor after you’ve shelled out capital on start-up costs and are waiting for that first influx of revenue. Many lenders – particularly traditional sources – see this as a negative.
Similarly, they often use credit scoring methods that don't accurately reflect your business’s potential and this may result in poor loan-to-value (LTV) or loan terms. In the US, an SBA 7a loan typically requires a credit score of 640, for example.
Commercial lenders may also take into account the property’s value and characteristics when providing finance, sometimes insisting that it, or another asset, be used as collateral in case of repayment failure. While not a problem for many borrowers, it can be a burden that’s too big for some.
These stringent demands leave commercial borrowers looking for alternatives as they attempt to spur business growth going into 2023.
5 ways to finance a soft deposit for commercial mortgage loans
Sellers demanding a soft deposit is understandable, but it can be difficult for investors to have these funds to hand over due to poor cash flow, especially when a typical soft deposit can reach up to 10-15% of a commercial property’s value.
A tough lending market has reduced ways for business owners to raise this money, but there are still several viable financing options readily available in the US market and beyond.
Commercial property bank loans have been around for a long time. Entrepreneurs in need of a financial injection have walked down this well-trodden path for centuries, giving institutions the power to set their qualification bar high.
If you have a solid credit history and a well-established, profitable business, then great: you’re probably eligible for a commercial property loan from a financial institution. This will come with a decent interest rate (typically between 4% and 7%), manageable monthly payments, and low closing costs.
If not, then you won’t like the lengthy application process, which demands extensive paperwork and several meetings with a bank employee.
Because these loans are typically for high amounts, they may not be the best option for a small business loan needed for a soft deposit, yet they’re still a possibility if your business has great creditworthiness and high profitability but restricted access to funds.
The Small Business Administration (SBA) has dealt out hundreds of billions of dollars in loans since 2020 as businesses have looked to borrow more or refinance following the pandemic.
Designed for borrowers who fall short of traditional bank credit demands, the SBA have dedicated commercial lending programs that cover the down payment, or soft deposit, needed for property. These are known as the 7a and 504 programs.
(i) SBA 7a program
The SBA 7 program allows you to borrow the down payment against another asset, like, say, another investment property. Here, you’ll need to show your business has the capacity to repay the monthly amounts from another consistent income source (even that of a spouse, in some cases).
Some 7a schemes even allow you to open up a Home Equity Line of Credit (HELOC) with the loan amount borrowed against your home. The obvious danger is that should things go awry, then your house is at risk, but it’s a useful option if you’re confident of repayment but don’t have another business asset to use as collateral.
(ii) SBA 504 loan
The 504 differs from the 7a in that it allows you to borrow the down payment without collateral as long as you can prove that it won’t harm your business.
For steady businesses looking to build financing amidst rising interest rates, the 504’s long-term fixed rate is a doubly useful option to have.
The peer-to-peer (P2P) lending market is worth $1.1 billion in the United States thanks to its quick and easy-to-use online application process. It’s especially handy for covering smaller types of loan, like down payments or bridge loans.
P2P’s principle is simple: specialized platforms connect borrowers to individual lenders, matching customized credit scores to lending criteria. Turnaround time is often much quicker than via financial institutions, which is perfect if you need to provide a soft deposit at short notice.
While P2P is very accessible, you may find that some deals have high interest rates, especially if your credit score isn’t up to scratch with some of the more demanding platforms.
The P2P industry is also less regulated than the banking sector, so it’s important to use a trustworthy platform with a good reputation.
The conflicting forces of the current economic crisis and an expanding commercial real estate market has created something of a void.
Businesses want to invest in commercial property but find their hands are tied from a lack of viable credit lines. As seen above, tough due diligence, high interest rates, and collateral demands are limiting the growth of businesses with reams of potential.
New digital solutions are stepping into this breach, breaking down the walls that are isolating would-be investors by offering low-interest, low-commission business financing.
Here’s an example of how new solutions help borrowers raise soft deposits for commercial properties.
Approval rates are high because rather than subjecting you to fussy credit checks and paperwork, the process asks for a temporary, removable commitment in the lender until the purchase is complete. AI-powered algorithms speed up the loan process, meaning you get access to finance within 48 hours, once approved.
You also get the flexibility to opt out of the finance should you have a change of heart.
These new digital methods are on the rise, as the lending gap in commercial property investment forces digital lenders to get creative.
With the demand for real estate finance set to intensify, they may just shape the business lending industry for decades to come.
Looking to buy that commercial property but can’t raise a soft deposit? Sign up to Duckfund to see how you can get approved for low-interest, low-commission finance within 24 hours.
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