Mezzanine Funding for Property Development Explained

Amidst the turbulence in Australia's property development market, traditional core assets are becoming scarce, leading investors to explore alternative options such as mezzanine finance.

Mezzanine loans are a unique form of financing that combines both debt and equity to fund property development.

For developers who are hesitant to enter joint ventures and prefer to retain more control over their equity, mezzanine finance is increasingly being viewed as an attractive option.

In this article, we will delve into the benefits of mezzanine finance for property investors.

Why it's called the hybrid

Mezzanine funding is a type of financing that combines elements of both debt and equity. It can be used in conjunction with senior debt to help minimise construction delays.

By tapping into mezzanine financing, a developer can work with just one lender while also increasing their borrowing capacity.

 

How do mezzanine loans work?

Mezzanine loans cover up to 90% of the total development costs as a subordinated debt piece that is secured by a second mortgage over the property.

This allows developers to protect their cash flow by taking long-term debt rather than increasing their equity. Mezzanine funding can also be raised relatively quickly, and the developer retains control over the project, unlike joint venture equity.

How to secure mezzanine finance 

To secure mezzanine finance, the developer will typically be required to have de-risked the project as much as possible, such as presales, final construction costings being contracted, and the senior debt being fully approved.

This style of loan generally does not occur until the project is ready to start construction.

If the property developer demonstrates they have minimised the risk and achieved “shovel ready” status, mezzanine funding can typically be provided at a cost of 22-24% pa.

When you might use Mezzanine finance 

Mezzanine finance is an ideal solution for property developers with multiple projects in their pipeline. They can get access to capital above what senior lenders are willing to fund without trading a substantial amount of equity.

By minimising the personal equity required for a single project, developers have the flexibility to use it elsewhere and diversify risk. Mezzanine funding helps to bring your project to market sooner and allows you to move forward with new projects even before it has settled.

Mezzanine loans make it simple to determine exactly how much equity you want to put into a project. By preserving their personal equity, developers can take on a greater number of projects at the same time, which can also open up further revenue streams.

Mezzanine funding can be blended with senior debt to help minimise delays in construction. The developer only has to deal with one lender while increasing their borrowing potential.

General benefits of mezzanine finance

  • The developer can choose how much equity to contribute to a project.
  • It's usually cheaper than equity and offers a higher return on equity.
  • The borrower can use their equity for other investments, spreading their risk.
  • The developer can continue the project independently.
  • The developer retains control, without needing joint venture partners.
  • Mezzanine financing is passive as long as the project meets expectations.
  • It can be obtained more quickly than equity.

Conclusion 

In summary, mezzanine funding is a viable alternative for property developers who need additional funding to complete their projects.

It allows developers to cover up to 90% of the total development costs as a subordinated debt piece secured by a second mortgage over the property.

Mezzanine loans offer several benefits, such as enabling developers to protect their cash flow, retain control over the project, and diversify their risk.

It is worth noting that mezzanine loan debt and equity can be tedious to negotiate and put into place in some circumstances.

Speak with the experienced team at Assured Management to learn more about the right financing option for your next property development project.

 

About Assured Management

Assured Management (AML) is a flexible, non-bank lender with the ability and expertise to work directly with property developers to complete projects in a timely and profitable manner. 

We provide tailored construction finance solutions and property development loans for:

Contact us today for advice on how we can assist with your property development finance needs.