For the majority of people purchasing commercial real estate, a commercial mortgage is a big part of the equation. Whether you want to invest in an apartment complex, a retail store or an office building, you will likely need some type of financing to make the deal work.
If you secure a traditional commercial loan, you will probably be faced with a looming balloon payment. It’s very important to understand how this payment works and what it means for your investment strategy. Keep reading to get all the information you need to help you feel more confident about this aspect of your loan.
What Is a Commercial Balloon Payment?
A balloon payment is essentially a lump sum that is paid to a lender at the end of the loan’s term. This payment is substantially larger than the other payments that were made up to that point. The idea is to set smaller monthly payments over a shorter term, then make one large payment, or balloon payment, at the end to satisfy the loan.
This strategy helps keep payments down for the majority of the life of the loan – typically 5 to 7 years. However, borrowers must always keep track of their final payment date, since that amount will be substantially larger.
When Does a Balloon Payment Make Sense?
Balloon payments are often best suited for investors who have a stable financial environment and predictable future income, so they don't get into trouble down the road when the payment is due.
In commercial real estate, balloon loans are often used for refinancing. If an initial loan is due and the investor doesn’t have the funds for repayment, a balloon loan can help because there is often no down payment required and the monthly payments are lower than a standard loan.
What Are the Risks Associated with Obtaining This Type of Loan?
The biggest risk when it comes to commercial balloon payments is not having the funds available to make the payment when the term is up or not being in a position to refinance. If there is no refinancing option, you'll be left with a huge payment and no way to make it, which could lead to a short sale of your property or foreclosure.
Therefore, it is imperative that you have an exit strategy in place long before your balloon payment comes due. It may make sense to simply refinance with another loan with a similar structure, or you may think about taking out the loan with a more permanent solution.
Not all Commercial Loans Have Balloon Payments
A commercial loan featuring a balloon payment is not the only option for investors. Depending on the lender, you could secure a fixed rate or hybrid loan that does not include a lump sum payment at the end of the term.
The key is to communicate your specific needs to the lenders you meet. If you clearly describe the loan you’re looking for, a lender should be able to guide you to a solution that makes the most sense.
If you’re interested in obtaining a commercial loan and you’d like to learn more about the options available to you, contact one of our experts today.