Commercial mortgages and refinancing a business property

A commercial mortgage is the cheapest long term money most trading businesses will ever access, and the slowest to arrange. The gap between those two facts is where deals go wrong, because owners price the rate and then get surprised by the valuation, the interest cover test or the eight weeks of legal work.

We are an independent commercial finance broker and we compare 50+ lenders on property backed cases. This is how these facilities are sized, priced and completed, and how to judge whether a refinance will genuinely release useful capital.

Owner occupied or investment: the first split

Every commercial lender separates these two at the front door, because the money that repays the loan comes from a different place.

Owner occupied means your trading company buys or refinances premises it operates from. The loan is serviced out of trading profit, so underwriting looks like business lending with a building attached. Lenders will usually add back the rent you currently pay to an unconnected landlord, since that cost disappears once you own the premises. For many businesses this is why ownership is cheaper month to month than renting, before any capital growth.

Investment means the property is held to let out, whether that is a retail unit, an industrial shed, offices or a mixed use block. The loan is serviced from rent, so the lease is the asset. Underwriting focuses on tenant quality, unexpired lease term, break clauses, rent review provisions and what happens if the tenant leaves.

The split drives everything downstream. Owner occupied cases typically reach a higher loan to value because the business covenant supports the debt. Investment cases are constrained by rental income and the stress test applied to it. Semi commercial property, such as a shop with flats above, sits between the two and is often funded on a specialist basis.

Loan to value, deposit and how lenders value the property

Typical maximum loan to value, as a guide rather than a promise:

• Owner occupied standard commercial. Usually up to around 70 to 75 per cent of value.
• Commercial investment. Usually up to around 65 to 75 per cent, with the rental stress test often biting before the loan to value cap does.
• Specialist and trade related property. Pubs, hotels, care homes, petrol stations and leisure sites are frequently funded at lower leverage against a bricks and mortar figure.

The valuation is where most surprises happen, so it pays to understand which number a lender will use. A RICS valuer instructed by the lender, and paid for by you, will report market value and will often also report a vacant possession value, which is what the building is worth empty and without your trade in it. On specialist property the vacant possession figure can be materially below what you consider the business is worth, and the lender will lend against the lower one. On investment property the valuer works from the passing rent and the yield an investor would accept, so a long lease to a strong tenant produces a higher value than the same building let short term.

Desktop and automated valuations are common in residential lending and rare in commercial. Assume a physical inspection, a fee paid up front and a report that takes two to three weeks to arrive.

Interest cover and serviceability

On investment cases the key test is interest cover, which is rental income divided by the interest cost. Lenders typically want somewhere between 125 and 145 per cent, and critically they test it at a stressed rate rather than the rate you are paying. A property producing £60,000 of rent will support a very different loan depending on whether cover is tested at the pay rate or at a stressed rate several points higher.

Two practical consequences follow. First, a rate rise reduces the maximum loan even when nothing about the property has changed. Second, vacant or part let property struggles on a long term mortgage, because there is no income to cover, which is where short term or bridging structures get used to hold a building until it is let or refurbished.

On owner occupied cases serviceability is tested from adjusted trading profit, after existing debt service, with the rent saving added back. Lenders want headroom on top of the required cover, and they will test the trend rather than one good year.

Term, amortisation and early repayment charges

Terms are typically 5 to 25 years for owner occupied premises and 5 to 20 years for investment, sometimes shorter where the loan runs past a borrower's intended retirement or past the end of a lease. Three structural choices decide the monthly cost:

• Amortisation profile. Capital and interest over 20 years costs far less per month than the same loan over 10, and far more in total interest. Some lenders quote a short term with a long amortisation profile, which leaves a balloon balance to refinance at the end. Know which you are being offered.
• Interest only. Available on many investment cases and occasionally for an initial period on owner occupied, which helps cash flow during a fit out or relocation. It does not reduce the debt, so there needs to be a credible exit.
• Fixed or variable. Variable rates are usually set over a reference rate such as the Bank of England base rate or SONIA. Fixed periods bring certainty and break costs. Many commercial facilities also carry a rate review at set intervals rather than a fix for the whole term.

Early repayment charges deserve a careful read before you sign and before you refinance anything. Variable rate commercial loans often carry a charge in the early years, frequently stepping down year by year and falling away after year three to five. Fixed rate facilities may instead carry a break cost linked to market rates, which can be larger and is not knowable in advance. Always ask for a redemption statement rather than estimating, because an early repayment charge and the fees on a new facility can quietly consume the whole benefit of a lower rate.

Refinancing in practice: when it releases useful capital, and the timeline

Refinancing a property you already own is the strongest tool most asset rich businesses have. It works well when:

• The property has risen in value or the balance has amortised, so there is real equity to draw against.
• You are carrying several costly short term facilities and can fold them into one amortising loan at a far lower monthly cost.
• An existing facility is nearing the end of its term or has a balloon balance due.
• You need a deposit for the next purchase or a major capital project, and borrowing against an existing building is cheaper than any unsecured alternative.
• You are moving the premises out of the trading company into a pension or holding structure as part of a planned reorganisation.

It works poorly when the numbers only look good on the rate. Be sceptical if your loan to value is already near the cap, since there is little to release once fees are paid. The same applies when early repayment charges and new arrangement, valuation and legal fees exceed the saving, when trading profit will not service a larger loan at a stressed rate, when the valuation is likely to come in on a vacant possession basis on specialist property, or when the only way the new loan fits is a shorter term that pushes the monthly payment up rather than down. Releasing capital also converts equity into debt, so it should be funding something with a return attached rather than filling a recurring gap.

On timing, a realistic commercial mortgage or refinance runs 8 to 14 weeks. Indicative terms take one to three days. A credit backed offer follows in one to two weeks once documents are in. The valuation is instructed after the fee is paid and the report typically takes two to three weeks on commercial property. Legals then run 4 to 8 weeks in parallel. What stretches that timeline is almost always documentation: missing leases or a tenancy schedule, no current EPC, title defects, unregistered land, outstanding planning or building regulations consents, a delayed redemption statement from the existing lender, or a solicitor without commercial property experience. Appointing a solicitor who does this work weekly is the cheapest acceleration available.

An initial conversation and indicative terms involve no credit check. A full credit search is run before any formal offer. We are an independent commercial finance broker and we are not FCA authorised. Commercial property lending to a business sits outside FCA regulation, so these facilities do not carry consumer credit protections.

Common questions

How much deposit do I need for a commercial mortgage?

Typically 25 to 35 per cent of the valuation for standard commercial property, more on specialist or trade related buildings. Where the business owns other property with equity in it, that equity can sometimes stand in place of a cash deposit by taking additional security.

Can I refinance a commercial property to release cash for other business purposes?

Yes, provided the purpose is business related and clearly stated. Lenders will ask what the money is for and will want it to be a defined use such as working capital, an acquisition, a project or consolidating existing debt, not an open ended drawdown.

Will a refinance always be cheaper than my current loan?

No. Compare the total cost, not the headline rate: early repayment charge, arrangement fee, valuation, both sets of legal fees and the new term. A lower rate over a shorter term can raise your monthly payment, and a longer term at the same rate costs more in total interest even though it eases cash flow.