In real estate, financing comes in three basic packages, residential, commercial and mixed-use. Residential loans are the most common and used to finance real estate that someone will be living in. It might be the owner occupying the unit or it might be a tenant. The most common type of real estate financing also provides the most competitive rates, terms and options.
Every mortgage company around is in business primarily to provide financing for a home. Most such loans are those underwritten to standards set by Fannie Mae or Freddie Mac and can be used to finance a primary residence, a vacation home or an investment property. Loan terms can as long as 30 years or even longer with certain portfolio programs.
Commercial loans are used to finance income-producing properties. This can be for any variety of commercial enterprises. A commercial loan can be used to finance a pizza joint, a dentist’s office, a movie theatre…anything that generates income for the owner. Commercial loans are primarily generated at a depository institution. That’s a bank or credit union. Commercial loans will carry slightly higher interest rates than those reserved for residential loans. These loans are typically available as adjustable rate loans tied to a specific index such as the Wall Street Journal Prime Rate, for example.
A mixed-use loan has a little bit of both worlds. A mixed-use property is one where both residential and commercial activity are taking place within the property’s boundaries. A common example might be apartment homes on the upper floors and a restaurant occupying the first floor. So, it’s not entirely residential and not entirely commercial. It’s mixed.
Financing for a mixed-use property can be loans underwritten or Fannie Mae or Freddie Mac guidelines which makes provisions for such property types. If the commercial space takes up no more than 25 percent of the total livable area, a conventional loan can be used. If it’s more than 25 percent, then a pure commercial loan looks like the choice.
A conventional mixed-use loan must also follow standard conventional guidelines such as loan limits, credit scores and down payment along with other requirements. An FHA loan may also be used. FHA loans are a bit more generous as it relates to how much space can be dedicated to commercial activity. With FHA loans, up to 49 percent of the property may be commercial. There are also loan limits that FHA follows. And, like other government-backed home loans, FHA requires the buyers to occupy the property as a primary residence. In both cases, conventional and government, the lender will typically ask the borrower to also be the operator of the commercial enterprise.
As it relates to income generated from the commercial portion, an FHA or conventional loan will require the owner have at least two years of experience running the business or similar business elsewhere before any income can be used in order to qualify. With a commercial loan, the income generated from the property is one of the primary focuses of underwriting. A commercial loan looks at how much money the business will generate and if the income generated is sufficient to service the debt.