Mezzanine Finance

Developers of real estate that need extra money to finish a project have the option of borrowing through mezzanine loan financing, sometimes referred to as junior debt. Senior lenders usually offer a maximum loan-to-value ratio of 65%, meaning the borrower is responsible for the remaining amount. On the other hand, developers can be hesitant to include a joint venture partner or commit all of their available equity to a single project.

Mezzanine financing is a good substitute to cover this senior lender funding deficit. It is a subordinated debt component secured by a second mortgage over the property that pays up to 90% – 100% of the total development expenditures. By taking on long-term debt instead of raising stock, mezzanine loans enable developers to safeguard their cash flow. Unlike joint venture stock, mezzanine capital may be raised rather rapidly and gives the developer more influence over the project.

In the capital stack, a mezzanine loan is positioned behind the senior lending facility and is effectively a combination of debt and equity. Mezzanine loan interest rates are significantly higher since the lender is taking on greater risk due to its second- or subordinated-ranking status. Mezzanine financing for building projects can be as low as 15% year or as high as 30% annually for projects with higher risk. Even while this is more costly than traditional loans, it gives developers the much-needed funding they need to move forward with the project.

The developer will usually have to have de-risked the project as much as possible—for example, by completing presales, contracting final construction costings, and completely authorizing the senior debt—in order to obtain mezzanine financing. This kind of loan usually doesn’t happen until the project is prepared for building to begin. Mezzanine capital can normally be supplied at a cost of 22-24% pa if the developer shows they have reduced risk and reached “shovel ready” status.