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Most construction and development projects are funded with a form of short-term finance. Large and small developers alike enlist the support of specialist lenders to help cover the costs of their projects, subsequently repaying their debts when the property is sold or let out.
One option is development finance, a purpose-made financial product issued by a specialist lender. Development finance is ideal for larger and more ambitious projects, with no limitations on how much can be borrowed. However, qualification criteria for development finance can be stricter than that of a comparable product, such as a bridging loan.
Financing Property Developments With Bridging Loans
Bridging finance is also a popular choice for developers, providing fast access to significant sums when time is a factor. Arranged within a matter of days and starting from as little as 0.5% per month, bridging finance can be uniquely flexible and cost-effective.
Unlike specialist development finance, funds raised by way of a bridging loan are issued in a single lump-sum payment. Depending on the lender you work with, the application process for a bridging loan can also be simpler than a development finance application.
Eligibility requirements are more relaxed – even applicants with a bad credit history or no proof of income are welcome to apply.
But what happens if the funds raised with a bridging loan prove insufficient? If at some point as the project progresses you need a further capital injection, what can you do to ‘top up’ your finances to ensure a successful completion?
Mezzanine Finance
This is where mezzanine finance can help, which can be used to supplement the primary financial product being used to fund a development project. Mezzanine finance is a second-charge financial product, typically issued exclusively to experienced developers with an established track record.
For example, a developer may cover 15% of the project’s costs with their own funds, before sourcing 75% in the form of a bridging loan. After which, the remaining 10% could be accessed in the form of mezzanine finance.
Mezzanine finance differs from a bridging loan in that it is issued as a second-charge loan against the property or development. This means that there is already one first-charge product secured against the property (the bridging loan), which takes precedence in terms of repayment.
All mezzanine finance products are unique, tailored in accordance with the requirements of the developer. Everything from the length of the repayment term to interest payments and commissions can be negotiated to ensure a fair agreement is reached.
The funds raised by way of mezzanine finance may be released in stages as the project progresses (as with development finance), or issued as a lump-sum payment if you prefer.
Fees, Charges, and Commissions
As mezzanine finance is issued as a second-charge loan, it is considered a higher-risk loan on the part of the lender. If the developer fails to repay their debts in full and on time, the first-charge product secured against their assets will take priority over the second-charge product.
Consequently, interest rates and overall borrowing costs on mezzanine finance can be higher than those of a comparable first-charge loan. In addition, it is also normal for the lender willing to request either a commission on the size of the loan or an agreed percentage of the profits upon completion of the project.
This is why it is essential to enlist independent broker support at an early stage if considering a mezzanine finance application. Your broker will help pair your requirements with an appropriate lender, while at the same time negotiating on your behalf to ensure you get the best possible deal.
A Facility for Experienced Builders and Developers
The popularity of mezzanine finance has grown significantly over recent years, due to its accessibility and the high loan-to-value (LTV) available. By combining the first-charge product with mezzanine finance, it is possible to cover up to 90% of a project’s total costs; in doing so, freeing up the investor’s own capital to be allocated to other projects or activities.
But as the risk level of a second-charge product is significantly higher, it is a form of funding that is usually restricted to experienced builders and developers. Evidence of successfully completed past projects will usually need to be presented, along with detailed financial projections regarding the outcome of the current project.
The support of an experienced mezzanine finance broker could prove invaluable, in helping you present a convincing case to your preferred lender. From preparing the formal evidence you need to support your application to negotiating an unbeatable deal, your broker will provide the representation you need to ensure a smooth and stress-free transaction.
Importantly, if there is a more suitable product for your requirements, your broker will ensure you are made fully aware of the options available.
