Finding creative and flexible financing solutions can maximize your commercial goals and investment potential. Allocating long term and short-term debt with expenses can help you succeed with your investments. Mezzanine financing may offer the flexibility and access to funding that other financing options do not.
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What is Mezzanine Financing?
As opposed to a traditional loan with real property as the primary collateral, mezzanine financing is a form of equity financing with a different securitization feature. Although mezzanine loans can vary in complexity, a core component of this loan structure is the business entity pledging the equity interest in that business entity as the loan collateral as opposed to the commercial land or project site. A default on the loan terms can result in the mezzanine lender obtaining an ownership stake in the business entity by a foreclosure acquisition or in lieu of foreclosure transfer of the mezzanine loan collateral.
Customer Due Diligence for Mezzanine Financing Use
Whether the customer is evaluating a mezzanine finance prospect from a borrower, project management, business owner, investor, and/or lender perspective, there are several factors for consideration tailored to a customer’s short- and long-term plans. Cash flow, capitol costs, and interest analysis aid to determine whether the interest, payment, loan life terms of mezzanine financing are more amenable for the borrower’s business strategy than traditional financing as well as any senior debt structure. The extent of preferred equity position for any investor and lender versus tying up the business entity’s equity, any distributions, and structure are also compared. Does the mezzanine loan provide investor financing with a suitable rate of return and a tolerable interest rate structure? Finding that financial sweet spot between senior debt and equity financing with each of their related costs, loan duration, and flexible payment terms is key to determine whether mezzanine financing is an attractive option depending on the size of the pledge, warrants, and/or conversion terms of a business venture’s equity, entity ownership structure, stock, and/or debt position. The equity-like features of mezzanine financing mean the lender shares in the project’s risk. In the event of a downturn or project failure, the investor may face increased pressure to satisfy the mezzanine debt.
Title Endorsement Due Diligence with Mezzanine Financing
Mezzanine financing typically generates a request for an American Land Title Association’s Mezzanine Financing endorsement or ALTA 16 endorsement to be added to an owner’s policy of title insurance. The ALTA 16 clearly identifies the mezzanine financing lender (“Mezzanine Lender”) and describes five key coverage features for that lender among that endorsement’s loss, claim, and insured provisions. The insured assigns rights under the owner’s policy to the Mezzanine Lender for receipt of payments pursuant to that title insurance owner’s policy up to the mezzanine loan’s outstanding debt. The 2006 form of the ALTA 16 also describes how the title insurance carrier cannot withhold payment to the Mezzanine Lender due to certain acts, knowledge or inaction by the insured “provided… the Mezzanine Lender has no Knowledge of the defect, lien, encumbrance or other matter creating or causing loss on Date of Policy”. The insured cannot modify the owner’s policy without the Mezzanine Lender’s consent. Loss liability cannot be denied to the Mezzanine Lender because due to a transfer or acquisition on or after the Date of Policy, the Mezzanine Lender has an ownership interest in the insured. The title insurance carrier does not have to obtain the Mezzanine Lender’s consent to insure mortgages and conveyance involving the land described in the owner’s policy.
Trust Metropolitan Title’s commercial group to offer expert guidance on if mezzanine financing is right for you.
At Metropolitan Title, our due diligence with an ALTA 16 request is to evaluate the structure of the mezzanine loan agreement, its impact on the existing equity and ownership composition of the business entity, and the formation and governance documents of that business entity. This information plays an integral role in communicating expectations with the customers as well as addressing the title insurance carrier’s underwriting or issuance requirements for the ALTA 16. Certain facts may be requested by the title insurance carrier to be disclosed by the property owner with or without indemnification and may be referenced in the title commitment’s exceptions. Metropolitan Title can also assist customers to determine whether the Mezzanine Financing Endorsement or certain UCC insurance is a better fit. We understand the unique flexibility that mezzanine financing provides: Metropolitan Title’s commercial group is available at commercial@metrotci.com or 877-269-7670 to explore your title insurance needs with mezzanine financing.
