Commercial Bridge Loans: What They Are & How They Work
This article is part of a larger series on Business Financing.
Commercial bridge loans are flexible loans that provide short-term financing for the purchase of commercial real estate and additional funds for the rehabilitation of property—they aren’t permanent financing. In addition to funding renovations and upgrades, a commercial bridge loan can be used by borrowers who cannot initially qualify for permanent financing.
Unlike permanent financing, where loans are funded based on the loan-to-value (LTV) ratio, commercial bridge loans are often based on the loan-to-cost (LTC) ratio or after-repair value (ARV). Lenders will consider a property’s current condition, renovation plans, and market conditions before approving or rejecting a project.
Because these loans are based on a property’s future value, they carry more risk to the lender than permanent financing. Pricing will be determined based on the level of risk involved, with higher-risk projects carrying a higher interest rate. Because conditions can vary widely with commercial bridge loans, terms will also vary considerably based on the factors listed above.
AVANA Capital is an excellent choice for entrepreneurs looking for interim financing for commercial properties. AVANA offers interest-only payments for up to three years, allowing borrowers to keep more cash on hand for other expenses. For more information about AVANA Capital’s bridge loan program, check out the company’s website.
When to Use a Commercial Bridge Loan
Commercial bridge loans are most often used for the purchase and improvement of commercial property. Four common reasons to consider a commercial bridge loan versus other financing options include:
- The property has unsatisfactory occupancy rates
- The borrower’s credit profile needs improvement
- The borrower can’t wait for permanent financing
- Ownership interests are incomplete or there’s no project team in place
Below are two examples of when to use commercial bridge loans and how they work.
Using Commercial Bridge Loans to Buy & Renovate Investment Property
A commercial bridge loan can allow a borrower to purchase a commercial property at a steep discount due to the property’s poor condition or the market conditions surrounding the property.
Lenders will assign a TC for the renovated property, including the purchase price and the cost of the needed improvements. This will likely be the limit to which the customer can borrow. In most cases, the borrower will be limited to 80% of the LTC value for the commercial bridge loan.
The renovated property can then be sold for a higher value, allowing the borrower to pay off the bridge loan and make a profit on the project.
Other Ways to Use Commercial Mortgage Bridge Loans
There are three other ways to use a commercial bridge loan:
- When a borrower cannot qualify for permanent financing. The temporary financing can be used to resolve credit issues that allow the borrower to eventually qualify for permanent financing at the end of the project.
- When a borrower has a limited time window for purchasing a property the ability to secure financing quickly. Permanent financing often requires the project to be finished before the loan is closed.
- When a borrower wishes to purchase and develop raw land, demolish existing structures and rebuild, or to purchase, renovate and sell existing properties.
Commercial Bridge Loans: Terms, Rates & Fees
$1 million to $40 million (or higher)
Six months to three years
Up to 80%
Varies; generally between 6% and 10%
1% to 6%
Origination fee plus 2% to 4% of loan amount
N/A or several months interest
Two to five weeks
The amount of the loan for which you are eligible will be determined by a combination of property value, cash flow generated, and your net worth. The lender will typically loan between 65% and 80% of the LTC and 80% of the LTV of the finished value of the property.
Qualifying for a Commercial Mortgage Bridge Loan
Qualifications for commercial bridge loans will vary between lenders. The general qualifications required by most lenders are:
Debt Service Coverage Ratio (DSCR)
1.25 or greater
Prior success in similar projects
650 or higher
Equal to or greater than the loan amount
Sometimes replacement or interest reserves
Financial statements on all principals, two years tax returns, rent rolls, schedule of leases, income and expense statements on subject property, executive summary, action plan, and breakdown of renovation costs
Debt Service Coverage Ratio
The debt service coverage ratio (DSCR) measures the borrower’s ability to handle the new debt obligation. It takes the business’ annual net operating income and divides it by the current year’s debt obligations, including the debt obligation on the new loan. Lenders will typically require a DSCR of 1.25 or greater.
The longer the borrower’s business has been operating, the better chance the loan will be approved. In addition, the lender will consider the borrower’s history of renovation projects when considering their qualifications.
Commercial bridge loans will generally not exceed the total net worth of the individuals applying for the loan. A financial statement for each individual and the business will be required at the time of application. Borrowers can use our free net worth worksheet to calculate and document net worth.
In addition to overall net worth, borrowers will need to show sufficient cash reserves for potential contingencies. Borrowers may hold back a certain amount of loan proceeds as an interest rate reserve. This allows the lender to draw payments from the fund while the property is in renovation status and not generating full cash flow.
As with all loans, the higher the credit score, the better terms the borrower can receive. Most commercial bridge loan providers will require a credit score of at least 650. However, the credit score is not the only factor considered. Often, the borrower’s DSCR will weigh more heavily in the credit decision than the credit score.
While documentation varies for each lender, the following list of documents may be required by the borrower at the time of application:
- Personal and business tax reports
- Personal resume
- Income and expense statements from previous property owner
- Rent rolls (a free template is available here)
- Schedule of leases
- Executive summary or action plan
- Breakdown of renovation costs and project schedule
- Exit strategy (sale or refinance)
- Broker’s letter of value
Where to Find a Commercial Mortgage Bridge Loan
Commercial bridge loans can be obtained from local or regional banks or online lenders. See our buyer’s guide for the best commercial mortgage bridge loan providers.
For businesses looking to purchase a property that needs extensive renovations, commercial bridge loans can provide the needed funds. Commercial bridge loans can be used for many types of properties, including multifamily residential, retail, office, and industrial properties. When the project is completed, the borrower can sell the property for profit, or the loan can be refinanced into permanent financing, allowing the borrower to continue to own the property.