Pros and Cons of a Commercial Second Mortgage

A commercial second mortgage is essentially an equity loan against a commercial property. With a second mortgage larger than your first mortgage on a property, you can cash out the difference between the two sums. The result is a line of credit that allows you to improve your property, purchase a second property or even purchase new materials for expansion. These benefits are just a few possibilities presented to commercial property owners with this additional income. There are many risks associated with taking on the debt.

Costs of a Second Mortgage

One reason many business owners may consider taking out a second mortgage loan as opposed to another form of funding is the reduced cost. The loan is secured against the deed to the commercial property. By securing the loan, you have given the lender assurance against loss should you default. This can result in a lower interest rate when compared to unsecured loan options. Further, since you already have a mortgage on the property, you are not risking any additional aspects beyond what you currently have leveraged in your business. With this second commercial mortgage, you are essentially risking the same asset you risked when you took the first mortgage.

Default and Foreclosure Risk

When you pull equity out of your commercial property, you are essentially pulling equity out of your business. This can have a large negative impact on your financial situation. It may lower your credit score initially, which can lead to an increase in interest rates on any adjustable-rate mortgages you currently have open. It can further present challenges if you seek additional funding in the near future. On your initial mortgage, you had already paid off a good deal of the loan. Now, you are converting equity into debt once again, which will increase your payments on the commercial mortgage. All of these factors can lead to default or foreclosure if you cannot afford the new stresses.

Second Mortgage Alternatives

If you determine a commercial second mortgage is too risky for your situation, there are alternatives. First, you may consider taking an unsecured line of credit. If your first mortgage is in good standing, you likely have excellent credit. This can present you with opportunities for loans without putting an asset down. While the interest rates can be higher on these loans, you are risking much less in the case of default. With an unsecured loan, you may be sued for the amount owed, but the lender cannot foreclose on your property.

Aside from an unsecured loan, you may consider taking on investors. At this point, you are seeking growth capital, not initial capital. If your commercial endeavor has been successful in its initial phases, you will have an easier time securing investor capital than you did the first time around. Seek investors who can add essential expertise to your business rather than just funding. Adding these individuals to your board of directors or senior management may present you with opportunities for growth in the future.

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