Mezz is an abbreviation for mezzanine, a level of financing between a senior loan (your typical commercial mortgage) and the owners’ equity. There can be a few different ways mezzanine financing can be structured to fill up the capital stack. Here we’ll focus on a mezzanine loan, also known as a second mortgage (as opposed to Preferred Equity which we may cover in a separate post later).
Mezzanine financing could be right for your deal when you have a gap in financing between your equity and the best available senior loan, but the financials still work out on the deal to bridge the gap with a smaller, higher-rate loan. Mezzanine is considered “higher up” the capital stack (see image above), which means it will cost a higher rate to compensate for higher risk. If a property goes bankrupt, first the equity will lose out, and then the mezzanine lender, before the senior lender loses out on their principal. A mezzanine lender will look at the deal as a balancing act between their risk (not getting paid back) and return (the interest and fees). Using a mezzanine lender means paying more each month in interest than using equity alone, but if your deal still yields a higher return, it can be worth the interest payments.
Mezzanine loans are often priced in the 10–15% interest range. While the rate on a mezzanine loan is quite a bit higher than a typical commercial mortgage, don’t be thrown off by the initial shock of the rate itself. You need to think of the total cost of capital for your project — the total interest paid each month across both loans.
Let’s say you are you are financing a $15M asset, and have enough capital ($1.5M) to put 10% equity in. You aren’t able to find a lender to provide 90% LTV financing, but you are able to find a senior loan for 70% LTV at 5% fixed interest. You have a shortfall of 20%, or $3M. If you can find a mezzanine lender to provide that $3M at even 14% interest, your blended cost of capital for the entire 90% stack of debt would be exactly 7%.
Do you have a gap in financing for your deal and need to look into getting a mezzanine loan? The market for mezzanine lenders is fragmented. There are lenders with geographic specialties, size constraints on both the minimum and maximum, and different types of expertise by asset type or loan scenario. Don’t let finding the right lender hold back your deal — we invented StackSource to help you hone in on the right lenders and instantly submit your loan request to the right lenders, with the right information, the first time. When you need certainty of execution, make sure you have the right process in place. Find out more about StackSource’s marketplace of mezz lenders.