Real Estate Project Finance: What Are The Funding Types?

A long-term real estate financing of independent capital investment is real estate project financing, which projects have the following: 

  • Cash flows
  • Assets

Real estate project finance is a traditional example. The cash flow is sufficient to cover operating expenses and fund the financing repayment requirements. The financing is made up of debt and equity matched to the asset’s lifespan.

Real estate project finance versus corporate finance

When the corporation takes a new investment, it uses cash flows from the other operating activities to fund a new project. It uses general creditworthiness to borrow money and then fund a project. A corporation may issue equity with an indefinite time horizon. In real estate project finance, the equity is used for funding the project and repaid at the end of a specific time horizon.

Real estate project finance capital stack

When speaking of funding real estate project finance, the capital stack may include various considerations, such as:

  1. Draws on the construction loans to finance
  2. Priority and security for different lenders in a capital stack
  3. The term that matches the length of time taken to develop and sell the project
  4. Trade-offs between floating and fixed interest rate
  5. Pricing around equity

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The capital stack consists of all the different types of financing used and compromises the following:

  • Equity
  • Senior debt
  • Subordinated debt

Senior debt is a secured capital, while equity will be the riskiest.

Terms to understand in real estate project finance 

  • LTV (Loan To Value). Debt financing amount a lender provides a percentage of the real estate market value.
  • NOI (Net Operating Income). Gross rental revenue less operating expenses, such as:
    • property taxes
    • Insurance
    • maintenance, etc
  • Cap rate. NOI is divided by the property’s value, expressed as a percentage.
  • Amortization period. The number of periods the principal repayments of the loan to be completed.
  • Term. The length of time the interest rate on the mortgage loan is agreed.
  • General partner. The owner of a partnership with unlimited liability is usually a manager who actively participates in operations.
  • LP (Limited Partner). A passive investor has limited ability and is based on the amount invested in the project.
  • Land loan. Financing is used to obtain a piece of land without NOI. The long-term value is much lower compared to an income-producing property.
  • FSR (Floor Space Ratio). It is used to determine the building’s size and control the density of the development on the land parcel.

If you are considering buying land to construct your house, you should consider real estate project financing.