Investment structures for property developments: loan notes
The fifth in a series of blog posts about different ways to structure property developments that involve one or more private investors.
12 August 2021
So far in this series of blog posts on investment structures for property developers, we’ve looked at structures that may be suitable when a small number of investors is involved, or only one. Sometimes, however, there are dozens of outside investors, and it is not practical to negotiate individual terms with each of them. In such cases, using loan notes may be appropriate.
Loan notes are a way of legally documenting loans made by multiple borrowers on the same terms. The ‘issuer’ of the loan note is the borrower – in the case of development projects, this is usually the SPV which holds the project. Each note is effectively an ‘IOU’, or a promise by the SPV to repay the loan with the specified interest. Loan notes can be secured or unsecured.
The structure used here is similar to the mezzanine loan – the SPV is often a 100% subsidiary of the developer company – but the investors all lend to the SPV on the same terms. As with the joint venture structure, a bank loan may not be needed, but if it is, the bank will demand first charge rights.
There is no set limit on the number of investors which can participate. In practice, though, it is usually better to have a smaller number of investors each contributing a larger amount.
Advantages and disadvantages of loan notes
Again, potentially not needing bank debt is an advantage of this structure, as is the fact that the developer retains control over the SPV.
Be aware, though, that criminal sanctions can apply if the arrangements do not comply with financial services regulations. Marketing to investors must therefore be carefully managed (there are several important issues, including categorising investors and preparing an Information Memorandum). The same is true of the ongoing administration of the arrangements over the lifetime of the development project.
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In the next blog post we’ll look at the fourth of the five structures: a self-managed ‘investment club’ or property syndicate.
Key terms SPV – in order to acquire and hold property in England and Wales you usually want to use a legal vehicle. There are several different types, of which the most common is an ‘SPV’ or Special Purpose Vehicle. This is often a private company limited by shares and registered in England and Wales. In some cases – but not all – it can be a 100% subsidiary of the developer. In other words, the developer owns all the shares in the SPV.
First charge – if a lender or investor has ‘first charge’ on a property, they have the right to be repaid before any other parties that are involved. In effect, they are ‘first in the queue’, which lowers their risk. Banks typically demand first charge when lending to property developments.
Important Nothing in this blog constitutes legal advice. You should take independent legal advice before acting on any of the topics covered.