How to negotiate a better interest rate for commercial property loans
The initial discussions between borrowers and banks or finance companies provide the perfect opportunity to negotiate a better interest rate.
According to LJ Hooker Commercial Finance’s Todd O’Neill despite advertising certain rates on websites and in newspapers, many bankers are loathe to offer an upfront quote on business and commercial borrowings.
“The reason for this is ‘risk’. For a business or commercial borrower, the interest rate charged is determined by a number of factors which are captured within an all-encompassing statement on a letter of offer,” O’Neill says.
“Your interest rate is the Bank Bill Swap Rate (BBSY) plus a margin of x.xx per cent. For example, it may be that the BBSY rate is 4.85 per cent today and the margin you are being charged is 2.15 per cent. This means that your loan will cost you an all up interest rate of seven per cent.
“The key to negotiating a better rate for business and commercial borrowings is to understand how risk margins are calculated,” he says.
“The risk margin quoted is derived from the bank’s own assessment of both the borrower and the property they are financing.”
Factors influencing the margin include:
- Is the property in a sought after area?
- Is it a specialised property such as a hotel or nursery?
The ‘strength’ of the borrower
- Do you have other income in addition to the property?
- Do you have extra assets in addition to the property being purchased?
The ‘strength’ of the tenant
- Is the lessee an existing long-term tenant with a good payment history?
- If it is a new tenant, are they a large or small business, and what is their capacity for payment?
The ‘strength’ of the lease
- Is it a short term for example, two years or under, or a longer term lease such as a ‘three by three by three’?
- Who has prepared the lease – you, your agent or a lawyer?
- Have you employed a professional property management team?
What this means for you
O’Neill says risk margins and interest rates are determined by the bank based on these factors and other conditions the bank may place on the loan.
“For example, they (the bank) may ask you to maintain an interest covenant of one and a half times the interest cover.
“This means that for every one dollar of interest you are being charged, you will need one dollar fifty of net income from all sources,” he says.
“You might also be asked to produce quarterly or half yearly financial statements and to agree to have the property you are buying re-valued every two years.”
Negotiating interest rates
When negotiating, don’t simply expect a bank to reduce their interest rate because another financier is quoting a lesser figure.
In order to negotiate properly, you need to create a well structured proposal to obtain the loan.
“This proposal should include not just your ability to repay the loan, but a thorough explanation of why this loan is a lower risk than other loans to the bank,” O’Neill says.
“Only then will you achieve the best possible interest rate for your borrowings.”