When a business loan matures: balloon payments, renewal and refinancing

Two numbers shape a loan like this. The amortization period is the schedule used to calculate the regular payment, as if the loan would be paid off gradually over that whole time. The term is how long the loan actually lasts before it matures. When the amortization period is longer than the term, the regular payments only pay down part of the balance, and the rest is due at maturity.

That remaining amount is the balloon payment. It is common in commercial real estate loans and in some business term loans. The monthly payments can feel manageable for years, which is exactly why the maturity date can catch an owner off guard.

Your loan agreement and promissory note state the maturity date, the payment schedule and any extension options. Finding those documents is the first step.

• Pay it off, from cash on hand, a sale of the property or business, or new equity from owners or investors.
• Renew or extend with the current lender, which keeps the relationship but resets the terms.
• Refinance with a new lender, which pays off the old loan with a new one.

Every loan and lender is different, so treat this as a general outline, not a rule. Commercial refinancing takes time because of appraisals, environmental reviews and legal work, and owners who start early usually have more choices.

1. Well over a year ahead: read the loan documents for the maturity date, extension options and prepayment terms. Get a sense of the property’s current value and the business’s cash flow.
2. About a year ahead: talk with the current lender about whether it is open to renewing, and on what terms. Start comparing other lenders.
3. Several months ahead: order third-party reports the new lender requires, such as an appraisal, an environmental report and title work, and submit the application.
4. In the final months: receive a commitment, finish legal documents and close before the maturity date.

Two ratios come up in nearly every commercial refinance conversation:

• Debt service coverage ratio (DSCR): the property’s or business’s net operating income divided by its loan payments. It shows how comfortably cash flow covers the debt.
• Loan-to-value (LTV): the loan amount divided by the property’s appraised value. If the value has fallen, the new loan a lender will offer may be smaller than the balance owed.

Lenders also look at the owner’s credit and experience, the property’s occupancy and leases, and whether the loan is recourse, meaning the owner is personally liable, or non-recourse. The get loan-ready guide covers organizing financial records.

Where the lender comes from often depends on the property. Banks and credit unions refinance many owner-occupied and smaller investment properties. For a business that occupies its own building, the SBA’s 504 (opens in a new tab) and 7(a) (opens in a new tab) programs can be used to refinance some eligible debt; SBA-participating lenders decide case by case, and the SBA loans page explains how those programs work. Larger investment properties are often financed by other kinds of commercial real estate lenders.

Refinancing means paying off the old loan, sometimes before its scheduled end. Many commercial loans charge for that. The common structures are:

• Step-down penalty: a charge that is set as a share of the balance and declines over the life of the loan.
• Yield maintenance: a charge designed to make the lender whole for the interest it would have earned, which can be large when market rates have fallen.
• Defeasance: common in loans that were packaged into securities. Instead of paying the loan off, the borrower buys a portfolio of government securities that replaces the loan’s payments, a process that involves specialists and costs of its own.
• Lockout period: a stretch during which the loan cannot be prepaid at all.

Many penalties fall away close to maturity, but not all do. The loan documents spell out which applies and when.

Sometimes a new lender offers less than the balance owed, or will not lend at all. Options owners explore include:

• A paydown, putting in cash or new equity to close the gap.
• An extension or forbearance agreement with the current lender to buy time.
• A loan modification that changes the terms of the existing loan.
• A bridge loan, a short-term loan meant to be replaced by permanent financing.
• Additional capital from investors, such as mezzanine financing or preferred equity.
• Selling the property, sometimes with the seller providing part of the buyer’s financing.

Warning signs include waiting until the final months to start, anyone who promises a refinance and asks for a large fee upfront, and extension offers with fees or terms that are not spelled out in writing. The business refinance page covers refinancing other kinds of business debt.

Questions to ask a lender:

1. Is an extension available, and on what terms and fees?
2. What prepayment terms apply to the current loan and the new one?
3. What DSCR and LTV are you looking for on this property?
4. What is your usual timeline from application to closing?
5. Is the new loan recourse or non-recourse?

The Federal Reserve’s Small Business Credit Survey (opens in a new tab) and the SBA’s loans overview (opens in a new tab) give more background on business financing.