Commercial Mortgages: Types, Terms & Structure

Published: March 24, 2026

Article by Ryan O'Connell, CFA, FRM

Commercial mortgages are the primary debt instrument behind income-producing real estate — from apartment complexes and office towers to retail centers and industrial warehouses. Whether you are evaluating a potential acquisition, analyzing a refinancing opportunity, or studying commercial real estate finance, understanding how these loans are structured, priced, and repaid is essential. This guide covers everything you need to know about commercial mortgages, including loan types, balloon payments, recourse provisions, effective yield, and the refinancing decision. Use our Commercial Mortgage Calculator to model payments and balloon balances for any deal.

What Is a Commercial Mortgage?

A commercial mortgage is a loan secured by income-producing real property. Unlike residential mortgages, which are underwritten primarily on the borrower’s personal income and credit score, commercial mortgages are underwritten primarily on the property’s cash flow and appraised value — though lenders also evaluate sponsor net worth, liquidity, and experience.

Commercial lending operates more like a “custom shop” than the standardized mass-production model of residential mortgages. Each loan is individually negotiated, with terms tailored to the property type, sponsor experience, and market conditions. For a detailed look at how lenders evaluate commercial loan applications, see our guide to commercial mortgage underwriting.

Types of Commercial Mortgages

Commercial real estate loans fall into several categories, each designed for a specific stage in a property’s life cycle. Understanding these distinctions is critical for matching the right financing structure to the right investment strategy.

Permanent Loans

Permanent loans are long-term financing for stabilized, income-producing properties. They typically carry fixed or adjustable interest rates with terms of 5 to 10 years (sometimes longer) and amortization schedules of 25 to 30 years. Life insurance companies, pension funds, and CMBS conduits are the dominant permanent lenders. Because the collateral is an operating property with established cash flow, permanent loans carry lower default risk than other commercial loan types — though they expose lenders to interest rate risk over the loan term.

Construction Loans

Construction loans finance the development of new properties before they generate any income. Terms are short (typically 1 to 3 years), rates are floating, and funds are disbursed gradually as construction milestones are completed. Commercial banks are the primary construction lenders. Default risk is high because the collateral does not yet exist as a functional property. Borrowers typically secure a take-out commitment — a promise from a permanent lender to refinance the construction loan upon completion — before a construction lender will fund the project.

Bridge and Interim Loans

Bridge loans fill the gap between construction completion and permanent financing. They are used when a property is not yet stabilized — for example, a newly built apartment complex that is still in lease-up. Terms are typically 1 to 3 years with higher rates than permanent financing, reflecting the transitional risk. Bridge loans give borrowers time to stabilize occupancy and income before securing favorable permanent terms.

Mini-Perm Loans

Mini-perm loans are a variant of bridge financing, typically 2 to 5 years, structured to provide intermediate-term debt while the borrower positions the property for permanent financing or sale. They often include extension options contingent on the property meeting performance benchmarks.

Key Loan Terms: Maturity, Amortization & Balloon Payments

The most distinctive structural feature of commercial mortgages is the mismatch between the loan term and the amortization period. A typical commercial mortgage might have a 10-year term with a 25-year amortization schedule. Monthly payments are calculated as if the loan will be repaid over 25 years, but the entire remaining balance — the balloon payment — comes due at the end of year 10.

Some commercial mortgages are structured as interest-only for part or all of the loan term. During the interest-only period, the borrower pays only interest with no principal reduction, maximizing current cash flow but resulting in a balloon equal to the full original loan amount. Interest-only structures are common for value-add acquisitions and transitional properties where the borrower expects income growth to support higher debt service later. For a deeper look at how payment schedules work, see our guide to loan amortization.

Recourse vs Non-Recourse Loans

One of the most important structural distinctions in commercial lending is whether the loan is recourse or non-recourse.

In a non-recourse loan, the lender’s sole remedy upon default is the collateral property itself. The borrower has no personal liability beyond their equity investment. If the property’s value falls below the outstanding loan balance, the lender absorbs the loss — they cannot pursue the borrower’s other assets or personal wealth.

In a recourse loan, the lender can seek a deficiency judgment against the borrower if the collateral is insufficient to cover the outstanding debt. This means the borrower’s personal assets are at risk.

The Put Option Analogy

Non-recourse lending effectively gives the borrower a put option on the property. The “strike price” of this put is the outstanding loan balance. If the property’s market value falls below what the borrower owes — and considering the lender’s foreclosure and workout costs — the borrower can rationally default, surrendering the property to the lender and walking away with losses limited to their equity contribution. This embedded option is one reason lenders price non-recourse loans at higher rates and impose protective covenants.

Bad-Boy Carve-Outs

In market practice, most non-recourse loans include bad-boy carve-outs (also called non-recourse carve-out guarantees) — specific actions that, if triggered, convert the loan to full recourse against the borrower or guarantor. Common carve-out triggers include:

• Fraud or material misrepresentation
• Voluntary bankruptcy filing
• Environmental contamination
• Unauthorized property transfers
• Misappropriation of rents or insurance proceeds

Prepayment and Call Protection

Unlike residential mortgages, which generally allow the borrower to prepay at any time, commercial mortgages typically include strict call protection provisions that restrict or penalize early repayment. Lenders — particularly institutional investors who match their assets to long-term liabilities — need the income stream to remain predictable.

The four common forms of commercial mortgage call protection are:

• Lockout period: The borrower is prohibited from prepaying for a specified period (e.g., the first 3 to 5 years of the term). No prepayment is possible regardless of cost.
• Fixed prepayment penalties: A declining percentage of the outstanding balance (e.g., 5-4-3-2-1% over five years).
• Yield maintenance: The borrower must compensate the lender for the present value of lost interest — the difference between the loan rate and current market rates over the remaining term. This can be extremely costly in falling-rate environments.
• Defeasance: Instead of paying off the loan, the borrower substitutes a portfolio of U.S. Treasury securities that replicates the remaining loan payments. The original collateral is released. This is common in CMBS loans and can be equally expensive.

Call protection is one of the most significant operational differences between commercial and residential lending. It directly affects a borrower’s ability to sell, refinance, or restructure the property’s capital stack during the loan term.

Calculating Commercial Mortgage Payments

The standard commercial mortgage uses a constant-payment (CPM) structure, where the monthly payment remains fixed throughout the loan term. The payment is calculated using the full amortization period, even though the loan matures earlier.

In the early years of a commercial mortgage, the vast majority of each payment goes toward interest rather than principal reduction. This front-loaded interest pattern means the loan balance declines slowly, contributing to large balloon payments at maturity.

Points, Fees & Effective Mortgage Yield

Lenders typically charge origination points — upfront fees expressed as a percentage of the loan amount — at closing. Points reduce the borrower’s net loan proceeds while payments are calculated on the full principal, which means the lender’s actual return (the effective mortgage yield) exceeds the stated interest rate.

The impact of points on effective yield is inversely related to the loan’s holding period. The shorter the borrower holds the loan, the more the upfront fee increases the annualized cost. The table below uses the standard mortgage-yield convention (monthly IRR × 12) on a 6.00% stated-rate loan:

Lenders often offer a mortgage menu — a set of rate-and-points combinations that produce the same effective yield. A borrower who plans a short hold may prefer fewer points and a slightly higher rate, while a long-term holder may benefit from paying more points upfront for a lower stated rate. Note that the effective mortgage yield captures only the lender’s origination fee — the borrower’s all-in cost also includes appraisal, legal, title, and other closing costs. For more on how interest rate changes affect debt instrument values, see our guide to interest rate risk.

Understanding mortgage yield analysis connects directly to broader fixed-income concepts. Our Fixed Income Investing course covers yield calculation, duration, and interest rate sensitivity across debt instruments.

When Does It Make Sense to Refinance a Commercial Mortgage?

The refinancing decision in commercial real estate involves comparing the present value of savings from a new, lower-rate loan against the costs of terminating the existing loan. The traditional framework uses a net present value approach.

The core calculation: discount the remaining cash flows of the old loan at the new loan’s yield, then subtract the payoff amount (outstanding balance plus prepayment penalty plus closing costs). If the result is positive, refinancing creates value.

An important nuance: the traditional NPV framework does not account for prepayment option value. A borrower who refinances today extinguishes the option to refinance at potentially even lower rates in the future. The true economic threshold for refinancing is therefore somewhat above a simple NPV of zero — the borrower should require a meaningful positive NPV to compensate for giving up the remaining option.

How Commercial Mortgages Differ From Home Loans

Commercial and residential mortgages serve fundamentally different markets and are structured accordingly. The differences extend well beyond loan size.

The debt service coverage ratio (DSCR) and loan-to-value ratio (LTV) are the two primary underwriting metrics for commercial mortgages — lenders require the property’s net operating income to exceed debt service by a minimum margin (typically 1.20× to 1.35× DSCR) and the loan amount to remain below a threshold percentage of appraised value (typically 65% to 80% LTV).

Common Mistakes When Evaluating Commercial Mortgages

Even experienced investors make errors when analyzing commercial mortgage terms. Here are the most common pitfalls:

1. Confusing amortization period with loan term. A loan described as “30-year amortization” does not mean you have 30 years to repay. If the term is 10 years, the full remaining balance is due at year 10 as a balloon payment. Failing to plan for the balloon is a fundamental and costly mistake.

2. Ignoring balloon refinancing risk in rising rate environments. Many borrowers assume they will simply refinance the balloon at maturity. But if interest rates have risen 200-300 basis points, the new loan’s debt service may exceed the property’s income, creating a shortfall. Always stress-test the refinancing assumption under adverse rate scenarios.

3. Comparing stated rates without adjusting for points and fees. A 5.75% loan with 2 points may cost more over a typical hold period than a 6.00% loan with no points. The stated rate is not the true cost of borrowing — the effective yield (accounting for all upfront costs) is the correct basis for comparison.

4. Underestimating prepayment penalty impact. Yield maintenance and defeasance provisions can make early exit extraordinarily expensive. A borrower who expects to sell or refinance before maturity must model the prepayment cost explicitly — it can easily consume the economic benefit of a favorable disposition.

5. Treating non-recourse as zero personal risk. Non-recourse does not mean risk-free. Bad-boy carve-outs can trigger full personal liability for actions like voluntary bankruptcy filings, fraud, or environmental violations. Borrowers should review carve-out language carefully and understand which actions preserve their limited-liability protection.

Limitations of Standard Mortgage Analysis

Standard commercial mortgage analysis — payment schedules, balloon calculations, and effective yield — provides essential baseline metrics, but it has several important limitations:

1. Assumes a static rate environment. Fixed-rate payment calculations ignore the possibility that rates will change before the balloon is due. For adjustable-rate loans, standard analysis may not capture the full range of payment variability under different rate paths.

2. Ignores embedded option value. Non-recourse provisions give the borrower a put option; prepayment rights give the borrower a call option. Standard payment and yield analysis does not price these options, which can have significant economic value — particularly in volatile rate environments.

3. Does not capture covenant and legal risk. Due-on-sale clauses, assignment restrictions, and lender acceleration provisions can all affect the borrower’s flexibility. In bankruptcy, Chapter 11 “cramdown” provisions may allow a court to restructure loan terms even over the lender’s objection, a risk not reflected in standard mortgage math.

4. Treats the borrower as a passive participant. In reality, borrowers actively manage their mortgage positions — negotiating workouts during distress, timing refinancing strategically, and structuring transactions to optimize tax and leverage outcomes.