While deciding on choosing a specific type of financing, there are many things an investor should consider. From choosing the best lender in the market to work with to choose the right kind of loan type with favorable terms, rates, and conditions – the process of finding the best form of financing for your commercial real estate property is often a lengthy one. It is nonetheless one of the most significant decisions you will be making and hence it will never be a waste of time for you.
Whether you choose to work with private money lenders or conventional lending institutions or traditional banks depends on numerous factors like your credit score, nature of the property, location of the property, the period within which you are looking to avail the loan, the rates and so on.
While Commercial Bridge Loans and Hard Money Loans may be the best options when investors are looking for a quick form of financing with less closing period, Stated Income Loans, on the other hand, might be the best option for lenders who have a rather poor credit score. At the end of the day, it is important to note that each form of financing for commercial real estate comes with its bunch of pros and cons and you should choose the one that makes the most sense for your financial situation and real estate investment goals.
It is a good idea to hire an expert to help you out with the process of decision making as choosing a wrong form of financing is a mistake that’s not only going to cost you extra money but also your peace of mind. This blog is an overview of the Mezzanine Financing which acts as a type of bridge loan. Read on to understand how Mezzanine loans can act as a commercial real estate bridge loan, what is the structure of such loans and what are best-case scenarios where availing Mezzanine Financing makes the most sense.
What are Mezzanine Loans?
Mezzanine Loans for investors and companies are a combination of equity and debt financing and are most commonly availed and utilized by well-established companies that are looking for expansion or diversification rather than companies that are in their startup phase. It is similar to debt financing in the capacity that it provides lenders a right to adjust the terms of the lending agreement to access the ownership or claim an equity interest in the company in a case where the borrower defaults on repaying the loan liabilities.
In other words, Mezzanine Loans are loans that are availed by borrowers where do not provide any property or assets as collaterals to the loan but a set percentage of the equity in the company, which can be taken up the lenders when the borrowers default in repaying the loan. This puts the lenders in a safe zone where they don’t have a worry or bother about non-payment on part of the borrower. Similarly, the borrowers can best utilize these loans too when they are confident about repaying the loan in time without sabotaging the shares of the company.
How do Mezzanine Loans act as Commercial Real Estate Bridge Loans?
Commercial Real Estate Bridge Loans are loans that are often by real estate investors when they have to find a quick short term financing to bridge the gap between their present and future financial circumstances. In other words, bridge loans are loans that are used to bridge the financial gap and act as an immediate form of short term financing until the borrower finds a more permanent form of financing.
A classic example of a use case of a bridge loan is when an investor needs quick funds to do some repairs and renovations to a property before the sale can be executed. In such cases, a bridge loan makes funding immediately available and the borrower can later pay back the loan from the sale proceeds. In most cases, commercial real estate bridge loans are backed up by either property as collaterals or assets as collaterals.
On the other hand, Mezzanine loans are not backed up by any kind of property or asset collaterals. In essence, Mezzanine loans are a type of commercial real estate bridge loans which are also essentially used for providing short term and immediate financing for business owners, entrepreneurs or real estate investors with an added clause that the lender can claim equity in the borrower’s company in case of a default on the part of the borrower.
Put it simply – if you want to obtain a Mezzanine Loan, you will have to place part of your company’s equity as a collateral to your lender. This equity won’t be transferred to your lender as long as you are honoring your loan liabilities. In a case where you’re unable to pay your loan liabilities, your lender can now forfeit a part of your company and own equity in your company. Thus, Mezzanine loans are a form of commercial real estate bridge loans that use a company’s equity as collateral instead of property or assets.
How does a typical Mezzanine loan look like?
The rates for Mezzanine loans generally range from 15% to 20% which are slightly higher than the normal commercial real estate bridge loan or other forms of financing like Bank Statement Loans or Hard Money Loans. However, these interest rates are quite justified in the sense that Mezzanine loans are paid back only at the end of the loan period and until then, only interest payments would be outstanding every month. Besides, since the lenders do not have an asset or a property of the borrower as collateral, it is only fair that they charge higher interests as a trade-off for the risks they’re taking up.
The loan term for Mezzanine loans ranges from 3 months to 36 months. As Mezzanine loans are essentially a type of commercial real estate bridge loan, they have short term loan periods which is generally 3 to 6 months but can extend till 36 months. However, note that it is always possible to work out a flexible term with commercial real estate bridge loan lenders if you can promise a convincing deal.
Mezzanine loans like Bridge Loans require shorter closing periods and costs. Since the very concept of Bridge Loans is based on the principle that investors, business owners or entrepreneurs get access to funding to meet ‘immediate’ financing needs, Mezzanine loans generally do not require a long time for processing.
What are the best-case scenarios where availing Mezzanine Financing makes the most sense?
Businesses generally lookout for Mezzanine financing when they need immediate funds to support specific growth projects in a company. Such loans are not the best go-to option for business owners who are probably just starting or who are in the phase of initial financing.
Besides, since Mezzanine loans are taken by providing a certain percentage of equity as collateral, the companies must be quite well established that leaves lenders interested in accepting equity in the company as secure collateral. Thus, when businesses are looking for immediate funding to invest in a growth or diversification project, Mezzanine loans are the best form of financing.
What are the benefits of availing Mezzanine Loans?
For businesses, Mezzanine Loans assist in generating a larger capital for the business without taking a direct form of debt financing which increases the liability of a business. These loans thus allow the business to increase the returns on equity through which the company can paint a higher bottom-line profit picture. This attracts new investors to the company.
Mezzanine Loans do not require principal repayment to be done during the term of the loan. The only loan liability that the borrower has to bear is the interest that shall be outstanding every month. Thus, until the end of the loan term, the borrower can improve the cash flow without spending too much on the out-of-pocket expenses.
Mezzanine Loans are the best loans to utilize when a commercial real estate investor is quite confident about his investments where all he has to do is to provide equity as the collateral and get it back without sabotaging it by honoring loan repayments on time.
Companies can choose Mezzanine Loans over other forms of financing which prevent them from adding up to the pile of liabilities of the company. The existing funds of the company can then be freely utilized by the company to pay off existing debt, invest in a growth project, develop tech or products of the company, finance a marketing project and so on. In essence, Mezzanine loans are the best fix to suit the immediate financing needs of a business while also not putting the burden of heavy collaterals on the borrowing party.
These are some of the top benefits of availing a Mezzanine Loan. To be ensured of choosing the best financing option there is for you, it is always a good idea to work with an expert who will guide you through the process.