Commercial Mortgages Explained
Much like residential mortgages, commercial mortgages are structured in numerous ways. However, the fundamentals, the interest rate and the repayment schedule, are no different and both remain of paramount importance.
In comparison to residential mortgages, commercial mortgages may carry a slightly higher interest rate. This is because some businesses are deemed a greater risk, particularly if your initial deposit is less than 15% – 20% of the loan amount
Commercial Mortgage Interest Rate Options
Fixed rates Fixed rate commercial mortgages are based on a set interest rate for either the duration of the agreement, or a set period of time. Where a mortgage is initially based on a fixed rate, the mortgage will revert to a variable rate once the agreed period has ended.
When considering a fixed rate mortgage watch out for early redemption charges. Lenders often levy these where a business attempts to move the mortgage to an alternative mortgage arrangement (for example variable rate) or an alternative provider.
Businesses often opt for a fixed rate commercial mortgage when interest rates are expected to rise, or where they need surety of a fixed monthly repayment.
Variable rates In the UK, most commercial mortgages are based on a variable interest rate that mirrors and fluctuates in line with the Bank of England base rate. Typically, a ‘margin’ or ‘premium’ above base rate will be agreed at the beginning of a commercial mortgage and will remain unchanged for the duration of the agreement. This premium will then be charged over and above the prevailing Bank of England base rate, forming the interest rate charged to your business.
Variable rate commercial mortgages have two key advantages:
- Lenders will often discount the interest rate for an initial period, typically 6 to 12 months.
- Your business will save money if the Bank of England reduces the base rate. (Likewise, your repayments will increase if the base rate increases)
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Commercial Mortgage Repayment Options
Despite the numerous different mortgage options available, always remember that the longer the term of your mortgage, the higher your total interest payment will be. By choosing the right option for your business, the interest payable should become a manageable regular outgoing. The most popular repayment options are:
Equal repayments
The option that most business select, enabling them to repay the same amount each month for an agreed term, typically between 10 and 20 years. A proportion of each payment covers the interest, whilst the rest reduces the initial loan amount or ‘principal’.
Equal repayments with a lump sum or final balloon payment
A useful option whereby a business is able to repay a set amount each month contributing to both the interest and principal loan amount. Upon completion of the repayments however, a lump sum or balloon payment remains due. This outstanding amount is often re-financed by the incumbent lender, though where sufficient funds are available, can be repaid in full by the business.
Interest only repayments with a lump sum or final balloon payment
Similar to the above mortgage option, however, monthly repayments only contribute to interest. The initial loan amount or ‘principal’ remains the same. At the end of the agreed mortgage term, the entre principal amount remains due. The key benefit of this option is lower monthly repayments. However, in the long term, your business will be required to pay back more interest compared to the alternative options, as the principal amount remains unchanged.
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