Commercial real estate financing, explained

If your experience of borrowing is a house, commercial lending will feel like a different activity, because the lender is underwriting a different thing. On a home, the lender is lending against you and using the house as security. On commercial property, the lender is lending against the building's income and using you as support.

Everything else follows from that one difference.

The three numbers

Net operating income. NOI is what the property earns after operating expenses but before the loan payment. Gross rent, minus a vacancy allowance, minus taxes, insurance, management, maintenance, utilities the landlord pays and reserves. It does not subtract the mortgage, and it does not subtract depreciation.

Get this wrong in your favour and everything downstream is wrong. The most common mistake is presenting gross rent as if it were NOI, and the second most common is leaving out a management fee because you manage it yourself — most lenders will put one back in anyway, because they have to underwrite the property as it would run without you.

Cap rate. The capitalisation rate is NOI divided by value. It is how commercial property is priced, and you can rearrange it to value a building: value = NOI ÷ cap rate.

A property with $120,000 of NOI in a market where similar buildings trade at a 7% cap is worth roughly $120,000 ÷ 0.07 = $1,714,000.

This is the part that rewards operators. Raise NOI by $20,000 a year — by filling a vacancy, resetting a below-market lease, or cutting a genuinely unnecessary expense — and at the same 7% cap you have added about $285,000 of value. Residential property does not work this way; commercial does, and it is the main reason people move into it.

Debt service coverage. DSCR here is NOI divided by the annual loan payment. If NOI is $120,000 and the annual debt service is $92,000, coverage is about 1.30. Lenders want a cushion above 1.00 so that one vacancy does not stop the loan being paid. Where exactly that threshold sits varies by lender, by property type and by market.

Note what this means in practice: coverage, not your income, is usually what caps the loan size. If the coverage requirement binds before the loan-to-value requirement does, the deal is sized by the building's earnings and there is nothing about your personal finances that will change it.

What kinds of property this covers

Multifamily of five units and up, retail and shopping plazas, office, warehouse and light industrial, mixed-use, hospitality, and special-purpose property such as gas stations and convenience stores.

Special-purpose is worth flagging separately. A building that can only realistically be one thing — a car wash, a fuel station — is harder to re-let if the operator fails, and lenders underwrite it accordingly, usually with the operating business itself as part of the file. We keep a separate page for gas stations for exactly this reason.

Owner-occupied is a different conversation

If your own business will occupy the building, the file changes shape: now the lender is looking at your business's trading performance as the source of the payment, rather than at third-party tenants. That is a different underwriting path and often a different programme. It is worth saying which one you are early, because the documents differ.

Recourse, and why people argue about it

Recourse means that if the property does not cover the debt, the lender can pursue you personally. Non-recourse means their remedy is essentially limited to the property.

Non-recourse is not free. It generally requires stronger coverage, lower leverage, a better property and a more experienced sponsor — and even then it comes with "bad boy" carve-outs that restore personal liability for fraud, misrepresentation, unauthorised transfers and similar. Nobody is handing out true no-strings non-recourse debt on a small deal.

What you will be asked for

Commercial diligence is heavier than residential, and starting it late is the usual reason a closing slips:

• A rent roll: every unit, tenant, rent, lease start and end, deposit.
• The leases themselves, not a summary of them.
• Two to three years of operating statements, and a year-to-date.
• A trailing twelve months of income and expenses.
• Entity documents: articles, operating agreement, EIN, and often an organisational chart.
• A personal financial statement and schedule of real estate owned for each guarantor.
• A commercial appraisal, which is a far longer document than a residential one and takes longer to produce.
• Often a Phase I environmental report, and on some property types that is not optional.
• Sometimes a property condition assessment and a survey.

The environmental and the appraisal are the two that set the outer bound on your timeline. Order them early.

The order things actually happen

Terms are discussed, then a letter of intent or term sheet is signed, then third-party reports are ordered and paid for, then the lender underwrites in earnest, then it goes to credit, then closing conditions are cleared, then you close. Expect this to take longer than a residential purchase — weeks rather than days is normal on a conventional commercial file, which is precisely why bridge and private capital exist for the deals that cannot wait.

What is not on this page

No rates, no maximum leverage, no coverage thresholds stated as rules. Those are set by individual lenders and by your specific file, and any figure used above is arithmetic illustrating a mechanism rather than a term available to you. What you are actually offered comes from a lender in writing after underwriting.

If you have a building in mind, tell us about it — the rent roll and the last two years of operating statements are enough for a first read.