Investment structures for property developments: mezzanine loan
The third in a series of blog posts about different ways to structure property developments that involve one or more private investors.
29 July 2021
Sourcing development capital is one of the biggest challenges that property developers face. If much of the necessary funding is coming from bank lending, but an additional investor is needed to provide the rest, a ‘mezzanine loan’ may be the best way to structure everything.
The developer company sets up the SPV and funds it using share capital or a loan. The SPV is often a 100% subsidiary of the developer company, and may pay development fees to it.
The bank makes a loan to the SPV, taking first charge on the property. The investor makes an additional ‘mezzanine loan’, taking second charge rights. The word ‘mezzanine’ here just means ‘in between’, like a mezzanine floor in a building. It refers to the fact that the senior lender (e.g. a bank) gets repaid first, then the mezzanine lender. And any additional profits go to the SPV’s shareholders.
Advantages and disadvantages of a mezzanine loan
It’s simple to set up, and is compatible with bank lending. The developer retains control over the development, and the investor may receive interest at an agreed interest rate, a share of development profits, or both.
However, the developer usually needs to contribute equity to set up the SPV, and it may not be tax-efficient for the investor.
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In the next blog post we’ll look at the second of the five structures: a joint venture.
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.