Hotel financing can be used to build, buy, renovate, or refinance a hotel or motel. The four main types of hotel loans are SBA 7(a) loans, SBA 504 loans, USDA B&I loans, and conventional bank loans. You can typically see rates for hotel financing between 5% to 9%, with repayment terms up to 25 years.
Live Oak Bank is one of the top Small Business Administration (SBA) lenders nationally, offering both SBA 7(a) loans and SBA 504 loans as well as United States Department of Agriculture (USDA) B&I loans. With a lending team designated specifically to helping hotel businesses obtain the financing they need, Live Oak Bank understands the unique needs of the industry. Connect with a loan specialist today to start the application process.
Who Hotel Financing Is Right For
Hotel financing can be used in many different situations. Current hotel owners may want to refinance an existing loan or may need funding to pay for renovations or to purchase new furniture or equipment. Those seeking to enter the hotel business may need a loan to purchase an existing hotel or to build a new one.
Hotel loans are most often used for:
- Buying an existing hotel: Business acquisitions are generally costly, and this is especially true when purchasing an existing hotel due to the real estate involved.
- Building a new hotel: New construction is an expensive endeavor and often requires a sizable amount of financing.
- Renovating an existing hotel: Whether you are renovating an entire building, or modifying certain aspects, these costly repairs may be more than your operating budget can afford.
- Purchasing furniture, fixtures, and equipment: In time, furniture, fixtures, and equipment will need to be replaced, and large expenditures may require financing.
- Covering working capital needs: As a hotel owner, you may require a boost in working capital to cover current expenses.
Commercial Real Estate Hotel Loans
Hotel loans are a combination of a real estate loan and a business loan wrapped up into one. Given the underlying real estate is being pledged as collateral, your hotel building must be approved as-is when financing with a traditional commercial real estate loan. However, you also must prove the profitability of your hotel as a business.
Types of Hotel Loans
Strong borrowers with an existing banking relationship
Smaller commercial real estate projects
Larger projects unable to obtain conventional financing
The most common types of hotel financing are:
Conventional Bank Loans
A conventional bank loan is a standard commercial loan that’s issued by a bank or lending institution and not backed by the federal government. Conventional bank loans can be used to purchase, construct, or refinance hotel properties.
The typical rates and terms for a conventional bank loan are:
- Loan size: No limit
- Interest rates: 5% to 7%
- Repayment term: Up to 25 years
SBA 7(a) Loans for Commercial Real Estate
The SBA offers commercial mortgages backed by the SBA through its SBA 7(a) loan program. SBA 7(a) loans are the most common type of SBA loans, and they can be used by businesses to purchase or refinance hotel properties up to $5 million, as well as providing the opportunity to borrow funds for working capital needs.
The typical rates and terms for an SBA 7(a) loan are:
- Loan size: Up to $5 million
- SBA interest rates: 7.25% to 9.75%
- Repayment term: Up to 25 years
SBA 504 Loans
The U.S. Small Business Administration backs an SBA 504 loans. SBA 504 loans help new and existing businesses purchase or refinance commercial property. An SBA 504 loan is comprised of two loans, one from a Certified Development Corporation (CDC) and one from a traditional lender. The maximum loan amount for SBA 504 loans is $14 million.
The typical rates and terms for an SBA 504 loan are:
- Loan size: Up to $14 million
- Interest rates: 4.5% to 6% on CDC loan and 5% to 12% on bank loan
- Repayment term: Up to 20 years
Hotel Loans for Renovations
Hotel renovation loans are used to finance improvements that will increase the life of the hotel. There are major and minor renovations based on how much they cost. Renovations include expenses such as new carpet, pool updates, painting, or other nonstructural improvements to the building.
Many hotel owners will try to make minor renovations by utilizing the operational cash flow of the business, but major renovations―above $100,000―often require some type of financing. For a renovation to get funded, the revenue and cash flow of the hotel must be very strong. You must be able to show the lender how easily you will be able to make any renovation loan payments and how those nonstructural improvements will help the business.
It’s important to be aware that hotels constantly need renovations, and lenders expect you to be saving for them. According to Pat Dignan, executive vice president of Northeast Bank:
“One pitfall to a hotel renovation is that it’s a constant need. Rooms are small and as a result people sit on the edge of beds, wearing out mattresses faster, luggage gets banged around the room, and the carpet is frequently traveled. Hotels typically need an overhaul every seven to 10 years, and lenders like to see borrowers with a reserve account setup to prepare for that, before asking for financing.”
Property Improvement Plan Obligations
If your hotel is part of a franchise, the franchisor may require you to agree to a property improvement plan (PIP). The PIP will instruct you to renovate specific aspects of the hotel at various points in time. For example, the franchisor could force you to purchase new signage, which they’re allowed to do under your Property Improvement Plan, or they may require that your lobby is renovated every five years.
The franchisor may require you to deposit funds into a PIP reserve. Whether you acquired an existing hotel or built one from the ground up, you may be required to have money in reserve for renovations of the property. You should check for any PIP reserve funds you currently have because it can help alleviate some of the costs.
Hotel Renovation Loan Options
Well-qualified, established hotel businesses
Larger renovation projects that will increase business revenue and cash flows
Short-term financing while awaiting a more affordable long-term financing option
Unexpected expenses and smaller renovation or repair needs
Renovations tend to be less expensive than new projects, resulting in smaller loan amounts.
In general, a conventional bank loan will be the least expensive form of renovation financing for those that can qualify.
SBA loans can be used for hotel renovation projects. However, they require a significant amount of documentation to prove that the proposed renovations will increase the revenue or cash flow of the business. One way to do this is to calculate the asset turnover ratio. This ratio shows how much money is earned compared to the money invested in an asset, like your hotel.
Smaller repair projects can sometimes be funded through a business line of credit, which provides additional flexibility to the business. A business line of credit allows you to borrow and repay funds as needed for smaller or recurring minor repairs
If you think an SBA 7(a) loan is the best option for you, SmartBiz can help. SmartBiz offers SBA 7(a) loans for hotel acquisitions, refinances, and working capital needs up to $5 million. With its streamlined application process, SmartBiz can fund loans up to $350,000 in as fast as 30 days. You can prequalify online in minutes.
Hotel Financing for Acquisitions
Businesses with plenty of collateral and an existing banking relationship
Affordable financing of up to $5 million
Projects that benefit the community, or projects costing up to $14 million
A hotel acquisition loan is used to purchase an existing hotel that is currently operating. Hotel acquisition loans only allow a 65% loan-to-value (LTV) while most other situations will allow as high as 80% to 90% LTV. The higher down payment requirement for acquisition can be a significant challenge when you’re purchasing an existing hotel.
Buying a hotel often requires financing for a large portion of the purchase price. Buying popular flagged hotels—one that is operated under a well-known brand name—is often easier to finance than an independent hotel or a mom-and-pop motel.
Hotel Acquisition Loan Options
The most popular long term financing options for hotel acquisitions are conventional bank loans, SBA loans, and private lenders. However, bridge loans are sometimes used to close a transaction quickly, with the bridge loan being refinanced shortly after that with a longer-term loan.
With its specialized lending team focused on hotel loans, Live Oak Bank can assist you with financing your acquisition through either an SBA 7(a) loan or an SBA 504 loan. You can connect with one of Live Oak Bank’s loan specialists to begin the application process. If approved, you can typically receive funding within 45 days.
Refinancing Your Hotel Loan
Strong borrowers with an existing banking relationship with a conventional lender
Long-term financing up to $5 million with repayment terms of 25 years
Financing of up to $14 million for expansion or purchasing additional property
Refinancing your hotel loan typically occurs when you’ve been forced to take a less-than-desirable loan to buy or build a hotel. Refinancing your current loan can give you lower rates, cheaper monthly payments, and provide additional capital towards hotel operations.
Refinancing an existing hotel as an operating business is typically much easier than financing a ground-up project. This is mainly due to the fact you now have a proven business model, with actual sales, occupancy data, and verifiable income.
Refinancing Loan Options
If your business is operating successfully, you’ll generally have a lot of options when it comes to refinancing, because the business already has a history of making mortgage payments.
Additionally, you may have already paid down a portion of the initial debt, meaning that you’ll require less financing than when you first got a loan, which opens up your borrowing opportunities.
When refinancing your current hotel loan, the lender will be very interested in how you’ve performed since the hotel has been in operation. This, combined with the future outlook of the market in your geographic location, will be the biggest underwriting factors in determining if you get approved and how much you can borrow.
For businesses needing to refinance commercial real estate loans up to $5 million, an SBA 7(a) loan can often offer longer repayment terms than other commercial real estate loan options. Celtic Bank is one of the top SBA lenders nationally, offering an online application process and funding within 45 to 60 days.
Hotel Financing for New Construction
Building a new hotel from the ground up is the most difficult project to get financed, largely because you don’t have any performance history to show. Getting financed for these deals is similar to getting financed when you’re starting any new business, with the added benefit of the fact that you’re building your collateral.
New hotels are going to cost more than any other hotel project. The process can be lengthy, and you’ll likely need to pay out a significant amount of money before you’re able to open the hotel for business. Even after you open, it may be a while before your hotel starts bringing in the amount of revenue necessary to make large loan payments while still meeting its operating cost demands.
All of these factors need to be taken into consideration when securing hotel financing for a new construction project to ensure that your business can remain solvent after opening.
Additional costs that should be included in the loan amount you request include:
- Construction down payments: Be aware of any upfront payments that may be required from contractors and include those in the loan amount.
- Operating expenses: Your loan should include a cushion equal to one to three months of operating expenses to cover any expenses while your business begins generating revenue.
- Loan payments: It can be difficult to make loan payments when you first open your hotel, including a cushion to cover the first few months of loan payments, may be advised.
You may want to consider only taking out a hotel loan for your new construction project if you have enough money on hand to handle some or all of these up-front or early operating costs.
According to Dignan:
“Very few lenders will do new hotel construction these days, but the ones who do typically want to work with a borrower who has experience and a track record of success. They’ll require a feasibility study to verify projections and ensure that new hotel supply will not overly dilute local demand. Borrowers should be prepared to partner with a franchise, have permits in place, and have a viable construction plan.”
New construction hotel projects that have strong proof of concepts
Projects with a strong potential return-on-investment
Difficult or high-cost projects
Due to the extensive amount of capital required to construct a new hotel, finding financing can be difficult. Your best bet to get financed for a new project is going to be through private commercial real estate lenders or a real estate investment company.
Construction loans for your hotel have a different process than other hotel loans you may get. According to Sonny Ginsberg, co-founder of the Ginsberg Jacobs law firm, where he represents both hotel owners and lenders:
“A construction loan will have a number of conditions that are not in nonconstruction loans. Primarily, lenders and their counsel will review carefully the GMAX contract and architect and engineer agreements, together with related consents and subordinations from those third parties, plus zoning, permits, lien waivers, and so on. There will be detailed provisions for how a borrower can obtain loan disbursements through a construction escrow.”
Hotel Loans for Furniture, Fixtures & Equipment
One of the most common large expenses for a hotel is the replacement of furniture, fixtures, and equipment. These can be capital-intensive projects that are critically important to maintaining the power of your brand identity and the enjoyment of your guests. Any financing needed to replace your furniture or important hotel fixtures is going to be similar to the financing you receive for any renovation.
However, when replacing equipment, there are equipment loans available that use the equipment you’re purchasing as collateral. Equipment financing is a good option if you only need to pay for new equipment, or if you’re looking to finance equipment separately from other improvements.
Those that prefer to finance all updates to equipment, furniture, and fixtures with one loan should consider an SBA loan. Having an equipment loan on your books when you apply for an SBA or conventional bank loan will make it more difficult to get approved. The bank may also want you to pay off your equipment loan with the funds you receive from your new loan.
Furniture, Fixtures & Equipment Loan Options
Larger equipment needs, excluding furniture and fixtures
Smaller repair or replacement expenses
Significant furniture, fixture and equipment needs, and additional working capital
You can use any of the three main commercial real estate loans to pay for furniture, fixtures, and equipment if you wish. However, when you’re purchasing equipment, you can get access to special financing that uses your equipment as collateral, which is much easier to qualify for than traditional financing.
Equipment financing can be given as a loan or an equipment lease, with various potential options to purchase at the end of your lease term. The less you want to pay to purchase the equipment at the end of your lease, the more your monthly payment will cost.
A small business line of credit can be a good option for financing smaller furniture, fixture, and equipment needs. BlueVine offers a line of credit of up to $250,000 with repayment terms of six or 12 months. To qualify, you will need a personal credit score of 600, six months of business operations, and annual revenues of $100,000. If approved, you can receive funds as soon as the next business day.
Hotel Financing for Franchises
If you’re buying a successful, well-known franchise hotel, you may find it easier to get a loan than starting or buying an independent operation. This is due to both your proven brand and business model as well as the partnerships that your franchisor may have. A franchisor can play a critical role in helping you obtain the financing you need.
One of the huge benefits of being a franchisee is that your hotel’s branding is already established. You can look to your franchisor for recommendations on lenders they’ve been successfully dealing with in the past, which means those lenders will be very familiar with your business model.
Partnering with a strong franchise might be your only option if you need financing for a hotel. According to Jan A. deRoos, Ph.D., HVS Professor of Hotel and Real Estate Finance at Cornell University:
“Developers generally get qualified for a franchise prior to obtaining financing. The fact that one of the major brands will approve you for their franchise says a lot about your net worth, business skills, and how much of a risk you are. In fact, many lenders will lend to approved franchisees only, or consider independent hoteliers where there is an established business relationship, probably with some franchised properties in the portfolio.”
Franchise Loan Options
Those whose franchisor has an established relationship with a bank
Franchise hotels that are already profitable in your geographic area
Those needing up to $14 million in franchise hotel financing
Often the best financing option for a franchise is a lender that the franchisor has had previous success with. However, businesses that already have an established banking history with a lender may also fair well with a conventional bank loan. Additionally, both SBA 7(a) loans and SBA 504 loans can be used to finance a franchised hotel.
Regardless of the loan option that you decide on, having your loan documentation prepared in advance, and selecting a lender that understands the industry can make the process go more smoothly. Ginsberg says:
“The hotel finance market is very broker-driven. While relationship lending works well for other real estate, you want to cast a wide net for hotel financing. Also, lenders will want to see a lot of ducks lined up before they begin to underwrite, so borrowers will need complete information on the existing or proposed flag, operational history, and awareness of the current local market.”
Keep in mind that getting funding for a loan as a franchisee could have extra challenges. For example, your lender will want a comfort letter signed by your franchisor. This letter gives the lender rights to continue operating the franchise if you default on the loan. This is a good reason why you should consider using a lender that your franchise is already comfortable with.
Specializing in franchise financing, FranFund can help you secure financing through a rollover for business startup, an SBA loan, or a conventional loan. FranFund utilizes a franchise-specific prequalification tool to preapprove loans. Schedule a free consultation today to see if you qualify.
Hotel Loans for Working Capital
If you have a small project for your hotel that you want to finance without putting up your real estate as collateral, an alternative business loan may be a good option. These loans typically have short repayment terms up to three years and can fund in as quick as one day. However, the interest rates on these loans are generally much higher than the rates on commercial real estate loans.
Hotel Financing Qualifications: What Hotel Lenders Look For
Lenders use their own specialized metrics when determining whether or not to lend to a potential hotel. Many will use their own unique formula to determine your project’s viability, although all lenders review the same standard information. In general, the most important factors are your personal credit score, how long you’ve been in business and your debt service coverage ratio.
Most hotel financing options have similar requirements, including:
- Minimum credit score: 680 (check your score for free)
- Minimum down payment: 10%
- Time in business: At least two years
- Credit history: No recent bankruptcies, tax liens, or foreclosures
The following aspects of your business will also be reviewed as part of the loan underwriting process.
Hotel lenders will want to review your hotel’s cash flow and projected cash flow. Cash flow is measured by the amount of money your business is taking in, less the amount you are paying out. This is most often depicted on a cash flow statement. Your lender will review your cash flows to ensure that your business is operating profitably.
Debt Service Coverage Ratio
Your debt service coverage ratio (DSCR) measures your business’s ability to repay debt. The ratio is calculated by dividing your net operating income by your total debt and interest payments. Your DSCR is one of the main ways in which a lender evaluates the financial health of your business, and can affect whether or not you get approved for a business loan. In general, lenders want to see that you have a DSCR of 1.25x or greater.
The loan-to-value ratio (LTV) is used to measure the percentage of a property’s value that’s being financed with a loan. Lenders typically have established maximum LTV rates they are willing to lend to. The maximum LTV allowable varies by loan type, individual lender, and in relation to other borrower qualifications.
Net Operating Income
Net operating income (NOI) is a calculated measure of the income generated by a real estate investment property. Your NOI is equal to the amount of cash flow generated by an investment property after operating expenses, but before principal and interest payments, capital expenditures, depreciation, and amortization. NOI is used to determine the profitability of your hotel.
The formula to calculate net operating income is:
NOI = Rental income + Other income – Vacancy losses – Total operating expenses
Revenue per Available Room
Revenue per available room (RevPAR) is an industry-accepted formula that is commonly used as an underwriting metric. RevPAR is calculated by multiplying the hotel’s average occupancy rate by the hotel’s average daily rate per room. There is no set RevPAR requirement because RevPAR varies widely by geographic market. It merely helps you—or your lender—determine the potential amount of revenue for your hotel.
For example, if your hotel charges an average of $100 per night, and your average occupancy rate is 85%, then your RevPar would be $85, which is $100 per night multiplied by 85% occupancy. You can further calculate the RevPar score by a certain number of days to get a RevPar per month or per quarter, either 30 or 90 days.
When evaluating your loan application, the lender will compare your RevPAR to your hotel’s historical numbers and comparable hotels in your geographic location. This allows the lender to determine if your projected revenues based on your RevPar are sufficient to cover the loan you are requesting.
Another measure that hotel lenders may consider is the debt yield. Debt yield is calculated by dividing your net operating income by the amount of the potential loan. This ratio results in a percentage and indicates your present ability to repay the loan. In general, a debt yield of 10% or greater is acceptable, though the exact underwriting requirement may vary by lender.
Hotels operated as part of a well-known franchise are often much easier to finance, as lenders understand that your hotel already has a strong branding and marketing structure. While this is beneficial to those operating a hotel under a flag, it makes financing a smaller hotel more difficult to finance.
Hotel Financing Frequently Asked Questions (FAQs)
A lot of information has been covered in this article about hotel financing, including the various types of financing, and what lenders consider when underwriting a hotel loan. If you have any questions about any of the information presented here, you can post them in the Fit Small Business forum.
How much do you have to put down on a hotel?
When purchasing a hotel, the amount of the down payment is dictated by your lender and the loan product you are using for financing. While some lenders and financing products only require a down payment of 10%, others can require as much as 35%. Consult your lender to find the required down payment amount for your situation.
How can I get a hotel business loan?
Whether you are applying for a conventional bank loan, an SBA 7(a) loan, or an SBA 504 loan, the first step is to contact a lender. Your lender should be able to advise you as to which type of financing will best suit your needs, and to guide you through the appropriate application process.
What is a flagged hotel?
A flagged hotel is a hotel that is operated as part of a national franchise. These hotels offer standard benefits and accommodations to guests as part of the franchise agreement, regardless of where the hotel is located. Some examples of flagged hotels include Days Inn, Holiday Inn, and Radisson Blu.
There are many great financing options, regardless of the scope of your next hotel project. The three best hotel loan options for most projects are conventional bank loans, SBA 7(a) loans for commercial real estate, and SBA 504 loans. Each offers a potential low-cost solution in comparison to other financing options, but each can be difficult to qualify for.
Live Oak Bank offers both SBA 7(a) loans and SBA 504 loans for hotel financing. Its dedicated hotel lending specialists understand the unique needs of hotel businesses and can help you obtain the financing your business needs. Connect with a loan specialist today to start the application process.