If you aim to secure a commercial mortgage for a property purchase or refinance, the deposit (down payment) requirements are more variable than those for residential mortgages. While securing a commercial mortgage can provide businesses with the capital to expand, acquire, or renovate property, the amount of deposit you need will depend on several factors.
What is a Commercial Mortgage?
A commercial mortgage is a specialized loan product designed to finance commercial real estate’s purchase, refinance, or development. This can include office buildings, industrial properties, retail spaces, hotels, and multi-family buildings (with five or more units). Unlike residential mortgages, commercial loans have different underwriting criteria, including a higher level of risk for lenders, which often translates into larger deposit requirements.
Commercial mortgages are generally secured by real estate, and the loan terms often reflect the level of risk the lender perceives in the borrower and the property. Interest rates on commercial mortgages may adjust to economic factors such as inflation and monetary policy, impacting repayment terms.
Commercial Mortgage Deposit Requirements
Commercial mortgage deposit requirements can range from as low as 10% to 50%, with various lenders offering different terms based on specific criteria. For owner-occupied properties, you may only need to put down 10% to 20% of the property value, depending on your financial situation and the property itself.
The deposit requirement for non-owner-occupied commercial properties is typically higher. It can range from 20% to 50%, depending on several risk factors, such as property type, income potential, and the debt-service coverage ratio (DSCR).
Owner-Occupied Properties
An owner-occupied commercial property is one where the business occupies a significant portion of the space, such as a retail store, office building, or industrial property. For these properties, the deposit requirement can be as low as 10%, especially for small businesses or startups. However, this is not always guaranteed, and factors such as your business’s financial health, credit worthiness, and overall risk profile will still play a significant role in determining your deposit.
Non-Owner-Occupied Properties
Lenders typically require a larger deposit for investment properties or commercial spaces where you will not be the primary occupant (i.e., office buildings leased to tenants). Expect to put down anywhere from 20% to 50%, depending on the location, tenant history, and market conditions. Lenders consider commercial mortgages for non-owner-occupied properties riskier, so the larger deposit reflects that risk.
Factors Affecting Deposit Requirements for Commercial Mortgages
Several critical factors can influence the deposit you will need for your commercial mortgage application. Each contributes to how lenders assess risk and determine your financial stability and ability to repay the loan.
1. Loan-to-Value (LTV) Ratio
The Loan-to-Value ratio is a key metric that lenders use to determine how much risk they take with your commercial mortgage. It is calculated by dividing the mortgage amount by the appraised value. For instance, if you are buying a $1 million property and taking out a $750,000 mortgage, the LTV ratio is 75%. Most commercial mortgage lenders prefer LTV ratios of 75% or lower, meaning they would want you to put down at least 25% to 30%. Some lenders may allow higher LTV ratios for specific properties, but those typically require additional insurance (such as CMHC) or other risk mitigation strategies.
2. Business Credit and Financial Strength
Lenders also consider your business’s credit history and financial strength. Your business’s credit score, financial statements, and track record of revenue generation are all scrutinized to determine whether your business can repay the mortgage. A strong financial history and a healthy credit score may reduce the deposit required, as lenders will perceive your business as a lower risk.
3. Debt-Service Coverage Ratio (DSCR)
The DSCR is a critical metric lenders use to assess a property’s ability to cover its debt payments with income. A DSCR of 1 means the property generates enough revenue to cover its debt obligations fully. Most lenders require a DSCR of at least 1.25 for commercial mortgages, which can vary based on the property type and location. A higher DSCR indicates a lower risk for the lender, meaning you can negotiate for a lower deposit. Conversely, a lower DSCR may require a larger deposit, or the lender may reject your application.
4. Property Type and Condition
The type and condition of the commercial property you intend to purchase can significantly impact the deposit required. Lenders consider some properties to be riskier than others due to factors such as location, condition, and market demand. Properties in well-established commercial areas or those with long-term tenants may have lower risk profiles, meaning you might need a smaller deposit. Properties in underperforming areas or those in poor condition may carry a higher perceived risk, requiring a larger deposit to mitigate that risk.
5. Interest Rates and Market Conditions
Economic factors such as inflation and monetary policy will influence commercial mortgage interest rates. Lenders may require larger deposits to reduce their risk exposure when interest rates are high. In a low-interest-rate environment, they may be more inclined to offer more favourable loan terms, including lower deposits.
CMHC Insurance
Canada Mortgage and Housing Corporation (CMHC) provides mortgage insurance for multi-unit commercial properties, which can help reduce the required deposit. CMHC-insured mortgages can offer a lower down payment, with a minimum of 15% required for insured properties. In exchange, borrowers will need to pay for CMHC insurance premiums, which add to the overall cost of the mortgage.
How to Improve Your Deposit Situation
If you are looking to lower your commercial mortgage deposit, there are several strategies you can consider:
- Increase Your Credit Score: A higher credit score can make you a more attractive borrower, possibly leading to a reduced deposit requirement.
- Optimize Business Financials: Strengthen your business’s financial performance by increasing revenue, reducing debt, or improving profitability. A strong financial position may give lenders confidence that you can manage a larger loan with a smaller deposit.
- Consider CMHC Insurance: If you are buying a multi-unit commercial property, CMHC insurance can reduce your deposit requirements to 15%.
- Explore Alternative Lenders: Some private lenders may offer more flexible terms, including lower deposit requirements, though they may come with higher interest rates.
- Negotiate Terms: Don’t hesitate to shop for lenders offering favourable terms. A mortgage broker can help you find the best deal.
Conclusion
Understanding the deposit requirements for a commercial mortgage is a key step in successfully financing your commercial property. While deposit amounts can vary widely based on factors like property type, business financial health, and market conditions, assessing your business’s economic standing is essential, as well as seeking out lenders with competitive terms and considering government-backed insurance programs like CMHC to reduce upfront costs.
By following the steps outlined above and working with the right commercial mortgage broker, you can confidently secure the financing you need to grow your business and invest in commercial real estate.
If you are ready to start the commercial mortgage process or need assistance understanding your deposit requirements, Contact Home Mortgage Care today for a personalized consultation and mortgage quote.
