What Is a Commercial Loan?

Commercial loans have one purpose – to help you operate and grow a business. There are several types of business financing, and one might be right for your commercial venture. However, other options might make more sense for smaller businesses and lower loan amounts.

Technically, a commercial loan isn’t made to an individual for personal use – it’s made to the business, and the business is responsible for repayment. Most lenders use the term “commercial loan” to refer to larger loans made to medium-sized companies. That generally means a business with annual revenue of $10 million to $1 billion. 

Commercial Loan Interest Rates

What is a good rate for a commercial loan? Commercial loan interest rates run between 3% and 10% as of this writing. Your rate depends on the loan terms and your business’ qualifications. 

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Types of Commercial Loans

Lenders separate commercial loans by their collateral, how they’re repaid, and what they are used to finance. Here are the most common options.

Term loans

These are straightforward loans that usually come with fixed interest rates and monthly payments. Borrowers choose a loan amount and repayment term, which can range from two years to more than 25 years. You’ll make regularly scheduled payments determined by the loan term, payment frequency, loan amount, and interest rate. 

Short-term loans

Short-term business loans are smaller than other commercial loans and normally paid back in no more than 18 months. The approval process is more streamlined than that of a term loan – as short as one day! Short-term loans are helpful for covering operating costs – purchasing inventory, meeting payroll, or funding an unexpected repair. 

Equipment loans

These commercial loans are defined by their use – obviously to purchase equipment or other big-ticket assets for the business. The asset being financed often serves as security for the loan. Loan terms usually range between three and ten years.

Commercial real estate loans

These loans finance the acquisition of real property like a factory, warehouse, or office. As with equipment loans, the property financed serves as collateral for the loan. Commercial real estate loans have the longest terms and usually the largest loan amounts. How much do you have to put down on a commercial real estate loan? Expect to bring in at least 30% of the purchase price at closing. 

Line of credit

Lines of credit are revolving accounts that function like giant credit cards for a business. Businesses can tap their lines of credit as needed up to their limits. Business lines of credit can be secured or unsecured. 

SBA commercial loans

Even though SBA stands for Small Business Administration, SBA commercial loans go up to $5 million and can be used by medium-sized businesses. The SBA offers commercial term loans, real estate loans, and lines of credit. The SBA doesn’t lend money itself; it partially guarantees repayment of a business loan, which you’d get from a bank or other commercial lender. To cover the cost of this guarantee, companies pay fees to the government. SBA guarantees help fund businesses that might be rejected for a regular commercial loan.

How to Qualify for a Commercial Loan

Businesses looking for commercial loans can get them from traditional lenders like banks and credit unions, online lenders specializing in commercial loans, or the SBA program. Traditional lenders have the most stringent underwriting, while SBA programs can be more flexible. 

Commercial loan underwriters consider most of the same factors that personal and residential lenders do:

• Credit score – either your personal credit or the rating of your business

• Income – your business revenue over the past several years

• Security – the collateral you’ll forfeit if you fail to repay the loan

• Loan use – your business plan and how your company will use the loan proceeds

• Business health – financial statements showing business assets, liabilities, profits, and losses

Documentation requirements depend on the lender – SBA loans and traditional lenders require a full complement of documents including financial statements, tax returns, and fully-developed business plans. Online lenders may allow more relaxed documentation if you meet their revenue requirements. 

What credit score do you need for a commercial loan? Generally, at least a FICO of 680 for loans from commercial banks and other traditional sources – and higher is always better. 

Commercial Loan Pros and Cons

Commercial loans are geared to the very specific needs of medium-sized companies. This makes them great for the right uses and not great for the wrong ones.

Pros

Business loans provide the capital needed to run or grow a business, so you don’t need to keep money aside for unexpected needs or save for years to expand when things are going well. With longer terms for large loan amounts, commercial loans can help keep payments manageable. 

Lenders can match your repayment schedule to your revenue or give you flexibility for repaying. And interest is tax-deductible.  

Commercial loans help you raise large amounts of money without selling shares in the company and diluting your ownership. This can be helpful when you want to retain full control and responsibility for your decisions.  

Cons

Applying for a commercial loan can be work. Lenders want to see your credit score, business history, current revenues, and assets.

You may have to put up collateral like your business’ equipment or real estate. You can lose those things if you fail to pay back your commercial loan.

You’ll incur interest charges and loan origination, underwriting, and other fees. It’s important to choose projects that will generate more than enough income to pay back the loan.

Best Commercial Loan Uses

Commercial loans are designed to help businesses grow. You’d use them for things like

• New equipment purchases. Using the equipment to secure the loan frees up assets for other projects.

• Facilities renovation to upgrade the size, efficiency, or safety of your workspace

• Working capital to keep operations flowing when your cash flow is interrupted – to make payroll, restock inventory or handle bills

• Business real estate purchases

• Marketing, adding staff, or targeting new sectors

The right commercial loan use should increase business revenue and more than pay for itself, so choose your projects carefully. 

Commercial Loan Alternatives 

Commercial loans are typically time-consuming, difficult, and expensive to get. That’s why small businesses are often better served by other financing options. Here are a few popular ways to start, expand or operate a smaller business.

Home equity loans

Home equity loans are secured by real estate, which makes them safe for lenders and less expensive for business owners. They are installment loans similar to term loans with (usually) fixed interest rates and fixed monthly payments. However, when your home secures a business loan, you can lose it if your enterprise fails.

HELOC

The home equity line of credit, or HELOC, is similar to a home equity loan. The HELOC is also secured by your home and comes with a relatively low interest rate. HELOCs work like business lines of credit that you can use and reuse. Interest rates can be fixed or variable.

Personal loan

Personal loans are usually unsecured, so assets like business equipment or your house are not on the line. They are riskier for lenders, so expect to pay higher interest rates, and they can be difficult to get unless your credit is excellent and your income solid.