When interest rates are at historic lows, people probably think about refinancing their home. Importantly though, they should never forget about the mortgage on their office, shop, or warehouse. The grey world of commercial mortgage might allow for changes that can benefit the bottom line tremendously.

This is not an opportunity to refinance every loan the business has. In fact, many business loans cannot be refinanced. Refinance opportunities are often restricted to fixed-rate loans, which are typically used for assets such as commercial property / commercial real estate (Commercial Mortgages).

How to Decide

The decision to refinance a commercial property loan is similar to home refinancing. There are significant costs involved, so one has to carefully weigh the monthly savings against the upfront expense.

As a rule of thumb, if one can reduce the rate by 1 percent and plan to keep the property for more than three years, it’s probably worth it. Bigger loans generate bigger savings, of course. The following expenses need to be considered judiciously.

Appraisal:

Any real estate that is collateral for a loan will have to be reappraised. The cost for a commercial appraisal is significantly higher than a residential appraisal.

Closing costs:

If it takes an attorney to close the loan, this has a fee.

Origination fees:

Banks are hurting for income these days, so most will tack on a half percent to 1 percent “origination fee” or “establishment fee”. This is simply a fee that offsets the cost of setting up the new loan.

Inspections, surveys, title searches, insurance, and more:

These are all fees and expenses that will add on when re-appropriating the commercial mortgage.

Time:

Don’t forget that time (and that of the staff) has infinite opportunity cost and value. Refinancing requires at least 20 to 40 hours of work (procedural) – Even more if issues come up!

As a quick calculation, the approximate figure comes down to $10,000 plus 1 percent of the loan value. On a $1 million loan, that’s a total of $20,000, or about the saving in interest over two years on a 1 percent drop in rates. Likewise, it would take three years to get ahead if the loan amount is only $500,000.

Beware the Criteria

Two obstacles could get in the way of your refinance: lower property values and a lack of cash flow. In banking terminology, that’s known as “adequate collateral” and a good “debt-service coverage ratio.”  Collateral value is easy enough to understand: The property must appraise for more than the amount to be borrowed.

The second criterion, debt-service coverage ratio, is simpler than it sounds. At the end of each month, the business must have more cash left over than what is needed to pay back the loan. How much is enough? Generally, multiplying the loan payment by 1.25 gives a good benchmark. If one is making the payment now (at a higher rate), chances are good that the business shall be able to  meet the needed coverage ratio at the lower interest rate.

About the Author: Dominic Lambrinos

Dominic Lambrinos is a financial expert who provides professional business finance solutions, commercial financial engineering, expert review of financial submissions, negotiation, equity raising, business sales, and trade financing. Dominic is also a sought after finance business trainer, and accomplished public speaker.

Under Dominic’s guidance , his team can also prepare professional financial submissions, review financial statements, provide financial accounting, business administration, development of information systems, marketing and sales skills, computer and Internet sales skills.