Senior Debt Fund: A fund that provides loans secured by the property, with seniority over other debt in case of default. Example: A senior debt fund lending 70% of a property’s value.
Mezzanine Debt Fund: A hybrid debt structure where the lender can convert the loan into equity if not repaid. It ranks behind senior debt in terms of priority.
Bridge Loan Fund: A short-term loan fund that provides financing between the acquisition and long-term financing or sale of a property.
Construction Loan Fund: A fund that finances the construction phase of real estate development, with loans repaid upon completion.
Preferred Equity Fund: Provides a hybrid of equity and debt, offering a higher return than senior debt but lower priority than common equity.
Distressed Debt Fund: A fund that invests in non-performing loans (NPLs) or properties in financial distress, seeking to restructure or acquire at a discount.
High-Yield Debt Fund: A fund that focuses on providing loans with higher interest rates in exchange for taking on more risk.
Real Estate Investment Trust (REIT) Debt Fund: A fund that provides loans to REITs, often in exchange for favorable interest rates or equity participation.
Loan Structures
Senior Secured Loan: A loan secured by the underlying real estate asset, giving the lender first claim on the asset in case of default.
Subordinated Debt: Debt that is junior to senior loans in terms of repayment priority. Example: Mezzanine loans are subordinated to senior debt.
Convertible Debt: A loan that can be converted into equity in the property or company under certain conditions.
Loan-to-Value (LTV) Ratio: The ratio of the loan amount to the appraised property value. Example: A 70% LTV means the lender finances 70% of the property’s value.
Debt Yield: The ratio of net operating income (NOI) to the loan amount, used by lenders to assess risk. Example: A $100,000 NOI on a $1M loan gives a debt yield of 10%.
Interest-Only Loan: A loan where the borrower only pays interest for a specified period, with the principal paid off later.
Balloon Payment: A large payment due at the end of a loan term to repay the remaining balance.
Amortization: The process of gradually paying off a loan through regular payments of both principal and interest over time.
Key Financial Metrics
Debt Service Coverage Ratio (DSCR): The ratio of NOI to debt payments. A DSCR above 1 indicates the property generates enough income to cover debt obligations.
Internal Rate of Return (IRR): The annualized return on investment, accounting for the time value of money.
Loan-to-Cost (LTC) Ratio: The ratio of the loan amount to the total cost of the property, including acquisition and development. Example: A 75% LTC means the loan covers 75% of the project cost.
Cap Rate: Measures the return on an investment based on NOI and purchase price. Formula: Cap Rate = NOI / Purchase Price.
Cash-on-Cash Return: The return on cash invested. Formula: Cash-on-Cash = Annual Pre-Tax Cash Flow / Cash Invested.
Yield Spread: The difference between the interest rate on the loan and the cost of capital for the debt fund, representing profit..
Weighted Average Cost of Capital (WACC): The average rate of return that a debt fund must offer to its investors, accounting for both debt and equity financing.
Break-Even Occupancy: The occupancy rate required to cover all operating expenses and debt service.
Leverage Ratio: The ratio of debt to equity in an investment, with higher leverage indicating more risk.
Loan Spread: The difference between the interest rate on a loan and the risk-free rate, representing the premium for taking on risk.
Equity Multiple: The total return on equity investment, expressed as a multiple of the initial equity. Example: A 2x equity multiple means the investor doubled their money.
Lending Criteria
Loan Covenant: Conditions imposed by the lender to protect their investment, such as maintaining a certain DSCR.
Due Diligence:
The lender’s process of evaluating a property’s financials, market conditions, and borrower credibility before issuing a loan.
Underwriting: The process by which a lender evaluates the risk of providing a loan and determines the terms.
Credit Risk: The risk of default by the borrower, typically assessed by the lender during underwriting.
Collateral: Assets pledged by the borrower to secure a loan, typically the real estate being financed.
Debt Coverage Ratio (DCR): A measure of how much cash flow is available to cover debt payments.
Recourse Loan: A loan where the lender has the right to pursue the borrower’s personal assets if the loan defaults.
Non-Recourse Loan: A loan secured only by the property, with no personal liability for the borrower beyond the property itself.
Loan Prepayment Penalty: A fee charged by lenders if the borrower pays off the loan early, compensating the lender for lost interest income.
Market and Risk Factors
Market Liquidity: The ability to quickly buy or sell loans or real estate assets without significantly affecting the price.
Interest Rate Risk: The risk that rising interest rates will increase borrowing costs, reducing profitability for debt funds.
Default Risk: The risk that the borrower will fail to make payments on time or default on the loan.
Credit Spread: The difference in interest rates between two debt securities of similar maturity but different credit quality.
Economic Vacancy: The loss of rental income due to factors like tenant nonpayment or property downtime, even when the space is leased.
Prepayment Risk: The risk that borrowers will pay off their loans earlier than expected, reducing the lender’s anticipated returns.
Refinancing Risk: The risk that the borrower will be unable to refinance the loan when it matures, potentially leading to default..
Liquidity Risk: The risk that the lender may not be able to sell the loan or property quickly without a loss in value.
Cyclical Market Risk: The risk that changes in economic conditions, such as recessions, will negatively affect property values and loan performance.
Leverage Risk: The increased risk that comes with using borrowed funds to finance an investment, as higher leverage increases vulnerability to market downturns.
Loan Servicing and Management
Loan Servicing: The management of loan payments, including collecting payments from borrowers, managing escrow accounts, and handling delinquencies.
Escrow Account: An account held by the lender to pay property taxes, insurance, and other recurring costs on behalf of the borrower.
Loan Modification: Changes made to the original loan terms, such as extending the loan term or adjusting the interest rate, often in response to borrower distress.
Foreclosure: The legal process by which a lender seizes a property from a borrower who has defaulted on the loan.
Workout Agreement: A negotiated agreement between the lender and borrower to restructure the loan to avoid foreclosure.
Delinquency: The failure of the borrower to make scheduled loan payments on time.
Collateralized Loan Obligation (CLO): A security backed by a pool of loans, often issued by debt funds to manage risk and liquidity.
Special Servicer: A company that handles non-performing loans, focusing on resolving defaults and managing distressed assets.
Investor Considerations
Preferred Return: The minimum return debt fund investors receive before profits are distributed to the sponsor or manager.
Equity Waterfall: The order in which profits are distributed among investors in a debt fund, typically prioritizing senior investors.
Exit Strategy: A plan for exiting an investment, often through property sale, loan payoff, or refinancing.
IRR Hurdle: The required internal rate of return investors must achieve before profit-sharing arrangements take effect.
Capital Stack: The hierarchy of debt and equity in a real estate investment, with senior debt at the bottom and equity at the top.
Fund Term: The duration of a debt fund, typically ranging from 3 to 7 years, after which the fund is liquidated or extended.
Distributions: Payments made to investors, typically from interest income, loan payoffs, or property sales.
Target Yield: Target Yield
Investment Minimum: The smallest amount an investor can contribute to the fund,Continuing from where we left off
Preferred Return: The priority return that investors receive before profits are split with the fund sponsor.
Distributions: Regular payouts to investors from interest income or loan payoffs.
Clawback Provision: A clause ensuring that if the sponsor receives excess profits, they must return a portion to investors to ensure proper distribution.
Promote: The share of profits given to the fund manager after investors receive their preferred return.
Capital Call: A request made by the fund manager for additional investor capital during the investment period.
Exit Multiple: The total return divided by the initial capital invested, expressed as a multiple of the original investment. Example: A 2x exit multiple means doubling the initial investment.
