By Emma Spielvogel

21 September 2017

It is imperative that mezzanine lenders and borrowers understand the risks associated with mezzanine debt.

Mezzanine finance assists real estate investors, developers, businesses and those looking to refinance to bridge the gap between senior debt and equity.

The word “mezzanine” comes from the Latin “medianus” which means “of the middle”. This is fitting as mezzanine finance is a middle layer of financing between senior debt and equity. It is a type of subordinated debt that ranks behind senior debt and ahead of equity in respect of priority of payment, and is generally secured by way of a second or third mortgage.

For example, consider a situation where a property developer requires significant funds for a new project. The developer has obtained a loan from a bank for 60% of funds secured by a first mortgage over the project site. While the developer is willing to contribute 10% out of his own pocket, there is a shortfall of 30%. The developer must tap into another source of funds – mezzanine finance. A mezzanine lender puts up the remaining 30% of money and takes out a second mortgage as security.

It is imperative that mezzanine lenders and borrowers understand the risks associated with mezzanine debt.

Mezzanine finance appeals to borrowers as it provides a much needed cash injection where they are unable to obtain additional senior debt finance because they have a high risk profile and/or are already highly geared. However, mezzanine financing will attract additional fees and higher rates of interest than conventional loans.

As a mezzanine lender, you are typically lending money in situations where mainstream lenders, such as banks, will not. Mezzanine lending is attractive as it offers high returns; however, it also carries more risk than other types of investment. If the borrower gets into financial difficulty, mezzanine finance is less likely to be repaid in full than senior debt.

At TLFC, we offer the following services for mezzanine lenders:

• Drafting and reviewing loan and security documents;
• Advising on your security position and the type of security;
• Conducting general due diligence;
• Advising on and/or drafting deeds of priority and other related agreements with senior financiers; and
• Acting on behalf of mezzanine lenders in the event of default by the borrower.

Whether you are a mezzanine lender or borrower it is essential that you seek legal advice in respect of your proposed transaction.

For further information and advice on mezzanine finance, please contact our Commercial Team.

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