Question 1

What is the capital stack?

Accepted Answer

The “capital stack” refers to the full set of financing instruments used to fund a given real estate investment. Every homeowner understands the difference between their mortgage and the equity they have in their home, but commercial real estate finance can be much more complex, involving numerous parties and a variety of structures.

Question 2

What is meant by capital stack?

Accepted Answer

The “capital stack” refers to the full set of financing instruments used to fund a given real estate investment. Every homeowner understands the difference between their mortgage and the equity they have in their home, but commercial real estate finance can be much more complex, involving numerous parties and a variety of structures.

Question 3

What is capital stack real estate?

Accepted Answer

The “capital stack” refers to the full set of financing instruments used to fund a given real estate investment. Every homeowner understands the difference between their mortgage and the equity they have in their home, but commercial real estate finance can be much more complex, involving numerous parties and a variety of structures.

Question 4

How does the capital stack work?

Accepted Answer

Much like a single-family home purchase, a real estate investment firm (a “sponsor”) will often seek a loan from a large bank at an attractive interest rate, subject to the bank’s underwriting and leverage standards. The sponsor will also contribute some amount of their own capital in the form of equity. In order to reclaim capital for other purposes, or to meet the capital requirements of the project, the sponsor will seek additional financing in the form of debt and/or equity to close the gap between total forecasted project cost and the financing already on-hand from a bank loan and/or their own capital. This overall financing structure (the capital stack) can reflect an infinite number of variations to suit the requirements of the sponsor, the project, and additional investors, and may be complex – with multiple tranches of mezzanine debt or senior debt that are later syndicated out into multiple notes.

Question 5

Why is there a capital stack in real estate?

Accepted Answer

Much like a single-family home purchase, a real estate investment firm (a “sponsor”) will often seek a loan from a large bank at an attractive interest rate, subject to the bank’s underwriting and leverage standards. The sponsor will also contribute some amount of their own capital in the form of equity. In order to reclaim capital for other purposes, or to meet the capital requirements of the project, the sponsor will seek additional financing in the form of debt and/or equity to close the gap between total forecasted project cost and the financing already on-hand from a bank loan and/or their own capital. This overall financing structure (the capital stack) can reflect an infinite number of variations to suit the requirements of the sponsor, the project, and additional investors, and may be complex – with multiple tranches of mezzanine debt or senior debt that are later syndicated out into multiple notes.

Question 6

What is in the capital stack?

Accepted Answer

The four components of the capital stack you’re most likely to encounter when investing through an online real estate investment or crowdfunding platform, going from the least to most risky, are: senior debt, mezzanine debt, preferred equity, and common equity.

Question 7

What are the levels of the capital stack?

Accepted Answer

The four components of the capital stack you’re most likely to encounter when investing through an online real estate investment or crowdfunding platform, going from the least to most risky, are: senior debt, mezzanine debt, preferred equity, and common equity.

Question 8

What is the lowest on the capital stack?

Accepted Answer

Senior debt sits at the bottom of the capital stack, and is secured by a mortgage or deed of trust on the property itself; if the borrower fails to pay and defaults on the loan, the lender is entitled to take title to the property. This greatly reduces risk on the principal invested because, at worst, the lender owns the property and will look to maximize value by selling the property or selling the non-performing loan. The “cost” of this lower level of risk is a lower yield on the money invested. Senior debt investors will be entitled to lower returns than all higher positions in the capital stack, over whom the senior debt investor will have payment priority.

Question 9

Where does mezzanine debt sit in the capital stack?

Accepted Answer

Mezzanine debt sits below the senior debt in order of payment priority. Once the developer pays operating expenses and the senior debt payment all income must go to pay the fixed coupon of the mezzanine debt.

Question 10

What is the difference between soft and hard preferred equity?

Accepted Answer

While hard preferred equity holders may have the ability to make some decisions or remove the borrower (the sponsor or developer) if they fail to make payments, soft preferred equity holders typically have more limited rights. As you’d imagine, the rate of return for hard preferred equity is similar (or slightly better) than mezzanine debt, while soft preferred equity returns can be substantially better.

Question 11

What is the top of the capital stack?

Accepted Answer

Common equity sits at the top of the capital stack and is the riskiest and most profitable portion of the real estate capital stack. Equity investments carry the greatest risk, because investment agreements entitle every other tranche of capital to be repaid before common equity holders. However, if the property performs well, equity investors usually have no cap on their potential returns.

How the Capital Stack Works in Commercial Real Estate

The Monthly Multiple: September 2023

Preferred Equity Real Estate Investing: What, Why, & How

How EquityMultiple Strives to Provide Investor Protections

Opportunities in Private CRE Credit

Connect With Us

Who We Are

Investments

Discover

Explore More