7 Benefits of Commercial Mezzanine Loan
Real estate investment management companies frequently use many sources of funds from within their capital stacks to finance the purchase of a new property or a development project. Mezzanine loans are one of the sources that can be used for financing. There are several advantages of utilizing a commercial mezzanine loan which will be explained in this article.
What Is Commercial Mezzanine Loan?
A sort of finance that investors take on to support purchases or development projects is a real estate mezzanine loan. Within the capital stack, mezzanine loans are below senior debt but are given precedence over preferred and common equity. Mezzanines, which are located one level above the ground floor of buildings, are where these loans get their name.
Investors might employ mezzanine loans to close the financing gap when senior debt is insufficient to cover the cost of a purchase or development project. By providing additional financing without selling the maximum amount of equity, mezzanine bridge loans assist investors in increasing their return on investment.
Real estate mezzanine loans are unsecured, so they often don’t necessitate collateral, as they combine debt and equity financing. However, lenders have the option of recovering their interest payments in the form of equity instruments in the event that a borrower defaults or declares bankruptcy.
How Does a Mezzanine Loan Work Compared to Other Types of Loans?
Mezzanine financing allows for more excellent selling options for investors, but because it is unsecured, lenders are exposed to greater risk. Mezzanine loans typically have shorter periods and higher interest rates than standard bank loans because of this.
Most rates are double-digit, and some may reach 30%. This trade-off is typically acceptable because long-term investors can keep their target ROI. Typically, the principal of the loan is not amortized. Therefore, interest is the only payment made.
7 Benefits of Using a Mezzanine Loan for Commercial Real Estate
Real estate mezzanine loans might be beneficial no matter which side of the transaction you are on. Below are a few of the benefits that come with choosing a mezzanine loan for real estate.
Reduce Your Equity Contribution
Consider a scenario where you still want to move through with your CRE project but need a way to lower your equity contribution. Your commercial real estate project costs $100 million, and you receive a bank loan for 60% of that amount. This implies that your bank loan is worth $60 million. Your present equity contribution is 40%, or $40 million.
You may decide to lower one project’s equity contribution for various reasons. It’s possible that you have plans for several commercial real estate ventures. You can use that money in other projects by lowering the equity contribution for one of them. You can accomplish this with the help of mezzanine financing without trading one project for another.
Bridge Your Financing Gap
Assuming you want to buy some CRE assets. You achieve this by securing a bank loan to pay for 60% of this buy. 20% more is covered by your equity contribution. You must still pay the remaining 20% of the property cost to buy the property.
You have a number of choices in this situation. Increasing your equity contribution to pay the remaining 20% is one possibility. Unfortunately, some businesses may not be able to increase equity contributions. Businesses can use mezzanine financing rather than attempting to raise more equity capital because of how it is structured—mezzanine financing functions as a solution-focused option.
Flexible Repayment
Mezzanine loans usually feature shorter terms and flexible repayment options despite having higher interest rates. In some situations, you might be able to repay your loan after the period has ended rather than during it.
If so, you’ll have more time to concentrate on your business and expand your operations, allowing you to pay back the loan at the conclusion of the term with ease.
Support for Improving Leverage Ratio
Impact on your company’s leverage ratio is one indirect benefit of adopting mezzanine financing. A company may want to balance this ratio if its equity exceeds its debts. Mezzanine financing generally incorporates both equity and liabilities. Preferred stock and unsubordinated debt are two types of mezzanine capital structures.
Therefore, a business could pursue mezzanine financing with an unsubordinated debt structure and gain from a sustainable leverage ratio in the long run. Naturally, lowering your leverage ratio may not be your primary motivation for seeking a mezzanine loan. However, while considering any financing options, you should think about how it would affect your company’s leverage ratio.
Property Protection
Lenders frequently adopt a more hands-off attitude when it comes to mezzanine financing for real estate. In other words, investors frequently continue to have complete control over their real estate. While still getting the money they require to forward initiatives, they will have the last say in what happens to their property.
It Is More Manageable Than Other Types of Loans
Because borrowers can transfer their interest to the loan balance, mezzanine financing is more manageable than other loan types. Some or all of the interest may be delayed if a borrower is unable to make a scheduled interest payment. Other types of loans often do not have availability to this option.
It Is Quick and Easy to Secure
Mezzanine financing also gives commercial real estate developers a quick and easy way to obtain sizable amounts of funding. Because no collateral is required for these loans, borrowers with a track record of profitable investments can benefit from this.
Who Are the Best Lenders for Mezzanine Loans
Private equity or venture capital firms are frequently mezzanine lenders. Therefore, think of these mezzanine loans as speculation. While the warrant element offers the possibility for upside gains, the debt instrument delivers an income stream and some risk protection.
It’s crucial to realize that there are several vital elements to consider while looking for a mezzanine lender. These comprise the credit history, expertise, costs, conditions, and availability of the lender. It’s essential to get in touch with each lender and inquire about their fees and interest rates once you’ve reduced your options and comprehended the many available lenders.
A suitable mezzanine lender should conform to stringent credit standards, have access to funding from outside investors or venture capitalists, have at least five years of experience making loans through private channels, be licensed by state and federal regulators, and offer flexible terms. There is no better place to get good mezzanine loans than Finance Lobby.
Things to Keep in Mind When Taking a Mezzanine Loan
There are a few things to do and keep in mind to obtain a mezzanine loan. First, find out if anyone within your network has successfully obtained a mezzanine loan by asking around. The second thing is to comprehend the loan’s conditions and your dangers thoroughly. Third, do some research on the top lenders of mezzanine loans and contrast their conditions and rates.
To help lenders process your application more swiftly, ensure all your information is organized, including your lease, credit report, income tax returns, and relevant bills. Last but not least, be prepared to exert additional effort. Make sure to adhere to your payment schedule and maintain regular communication with your lender.
Conclusion
A mezzanine loan gives borrowers different financing options that might boost overall returns. It is intended to fill the void between a senior loan and the available equity. Utilizing mezzanine loans in a real estate investment can increase returns by lowering the amount of equity required in the transaction.
Mezzanine financing has risks as well. They are placed second in line for repayment in the case of bankruptcy or foreclosure, which increases the transaction’s overall cost of capital. The asset must perform well enough to pay the debt service on both the senior and mezzanine loans because it may also have significant fees. These elements ought to be taken into account during the underwriting process.
Finance Lobby is the best commercial real estate marketplace for securing commercial real estate loans. Finance Lobby is improving the effectiveness of loans for commercial real estate. You get accessibility to the most extensive CRE lender network in the US with Finance Lobby.