Guide
Commercial Real Estate Financing Guide
A comprehensive overview of CRE financing structures, loan types, and the key metrics that drive lending decisions - designed for sponsors, developers, and investors navigating the capital markets.
Introduction
What is CRE financing?
Commercial real estate financing encompasses the full spectrum of debt and equity capital used to acquire, develop, reposition, and refinance income-producing properties. Unlike residential mortgages, which are largely standardized products, CRE loans are bespoke instruments shaped by property-specific cash flows, sponsor experience, market conditions, and the strategic objectives of both borrower and lender.
The CRE capital stack is layered, with each tier representing a different risk-return profile. Senior debt occupies the safest position with the first claim on property cash flows and collateral. Mezzanine debt and preferred equity fill the gap between senior debt and common equity. Each layer carries progressively higher returns to compensate for progressively higher risk.
This guide is designed for borrowers and investors at every stage of experience - whether you are financing your first acquisition or structuring a complex recapitalization of a multi-property portfolio. We cover the major loan types available in today's market, walk through the financing process from underwriting to closing, and define the key metrics that lenders use to evaluate your deal.
Loan Types
Types of CRE loans.
The commercial real estate debt market offers a range of products, each tailored to specific property profiles and borrower objectives.
Senior Debt
Senior debt sits at the top of the capital stack and carries the lowest cost of capital. Lenders -typically banks, insurance companies, and CMBS conduits -take a first-lien position on the property. Because of this priority claim, senior lenders offer the most favorable interest rates, but they also impose the most conservative underwriting standards. Borrowers should expect rigorous scrutiny of property cash flows, sponsor track record, and market fundamentals.
Mezzanine Debt
Mezzanine financing fills the gap between senior debt and equity, typically structured as a loan secured by a pledge of the borrower's ownership interest rather than a direct lien on the property. Pricing reflects the higher risk position -expect rates 300 to 800 basis points above senior debt. Mezzanine is a critical tool for value-add strategies where additional leverage can amplify equity returns.
Bridge Loans
Bridge loans provide short-term capital for properties in transition -whether that means leasing up a newly developed asset, repositioning an underperforming building, or acquiring a property that does not yet qualify for permanent financing. These loans are typically interest-only with flexible prepayment terms, allowing borrowers to execute their business plan before refinancing into long-term debt.
Construction Loans
Construction financing funds the development of new commercial properties from the ground up. These loans are disbursed through a controlled draw process as construction milestones are achieved. Lenders require detailed budgets, guaranteed maximum price contracts, and often personal guarantees from sponsors. Construction loans carry higher risk premiums and typically include performance-based covenants tied to construction timelines and budgets.
Permanent / Agency Loans
Permanent financing from agency lenders -Fannie Mae, Freddie Mac, and FHA/HUD -offers the longest terms and most attractive fixed rates available in the market. These programs are primarily available for multifamily properties that meet occupancy and income thresholds. Agency loans feature non-recourse execution, assumability, and supplemental loan programs that make them particularly attractive for long-term holders.
CMBS Loans
Commercial Mortgage-Backed Securities loans are originated by conduit lenders and securitized into bond offerings sold to institutional investors. The securitization process allows lenders to offer competitive fixed-rate, non-recourse terms. However, CMBS loans are less flexible than balance sheet loans -they typically include lockout periods, defeasance or yield maintenance prepayment provisions, and require special servicer approval for material modifications.
Process
The financing process.
From initial analysis to funding, the CRE financing process follows a disciplined series of phases - each critical to achieving the best possible outcome.
Property Analysis & Underwriting
The financing process begins with a thorough analysis of the subject property and transaction. This includes developing a detailed financial model with historical and projected cash flows, analyzing the rent roll and lease structures, assessing capital expenditure requirements, and benchmarking the asset against comparable properties in the market. The goal is to build a compelling investment narrative that resonates with lenders and positions the borrower for the most competitive terms available.
Lender Selection & Market Canvassing
With a clear understanding of the transaction, the next step is identifying the right universe of lenders. Different capital sources are suited to different deal profiles -a stabilized Class A office building calls for a very different lender than a value-add multifamily acquisition. An experienced advisor will canvass the market strategically, targeting lenders with demonstrated appetite for the specific asset type, geography, and deal size, while creating competitive tension that drives pricing and terms in the borrower's favor.
Term Sheet Negotiation
Once indications of interest are received from lenders, the negotiation phase begins in earnest. This is where meaningful value is created. Beyond headline pricing, experienced advisors focus on critical structural elements: prepayment flexibility, reserve requirements, recourse carve-outs, guarantor obligations, earn-out provisions, and extension options. The objective is to secure a term sheet that aligns with the borrower's business plan while minimizing execution risk through the closing process.
Due Diligence & Documentation
After a term sheet is executed, the transaction enters the due diligence phase. The lender will order third-party reports including an appraisal, environmental assessment, property condition report, and seismic study (where applicable). Legal counsel drafts loan documents based on the agreed term sheet. This phase requires careful project management to ensure all parties remain aligned, deadlines are met, and any issues that arise during diligence are addressed proactively before they can derail the closing timeline.
Closing & Funding
The final phase brings all workstreams together for closing. This includes finalizing loan documents, satisfying all closing conditions and lender requirements, coordinating with title companies and escrow agents, and ensuring all regulatory and compliance requirements are met. A well-managed closing process is the culmination of weeks or months of preparation. Post-closing, borrowers should maintain organized records and a strong relationship with their lender -proactive communication through the life of the loan pays dividends when it comes time to refinance or seek additional capital.
Key Metrics
What lenders evaluate.
Understanding these core metrics is essential for any borrower seeking to optimize their financing terms and navigate the underwriting process effectively.
DSCR
Debt Service Coverage Ratio
Typical: > 1.25x
The ratio of a property's net operating income to its annual debt service obligations. A DSCR of 1.25x means the property generates 25% more income than is needed to cover loan payments. Most lenders require a minimum DSCR of 1.20x to 1.35x depending on property type and risk profile. This is often the single most important metric in a lender's underwriting process.
LTV
Loan-to-Value Ratio
Typical: 55 – 75%
The ratio of the loan amount to the appraised value of the property. A lower LTV indicates more equity cushion for the lender, which translates into lower risk and more favorable pricing for the borrower. LTV thresholds vary by property type -multifamily assets may see higher allowable LTVs than office or retail properties due to their historically lower default rates.
Debt Yield
Net Operating Income / Loan Amount
Typical: > 8 – 10%
Debt yield measures the lender's return on investment independent of the interest rate or property value. It is calculated by dividing the property's net operating income by the total loan amount. Unlike DSCR, debt yield is not affected by interest rate fluctuations, making it a useful benchmark for comparing loan risk across different rate environments. Many institutional lenders set minimum debt yield thresholds as a key underwriting constraint.
Cap Rate
Capitalization Rate
Typical: 4.5 – 8.0%
The cap rate expresses the relationship between a property's net operating income and its market value, serving as a proxy for the risk-adjusted return investors expect from the asset. Lower cap rates indicate lower perceived risk and higher valuations. Lenders monitor cap rates closely because they directly affect property values and, by extension, LTV ratios. A rising cap rate environment compresses values and can push borrowers above their LTV covenants.
NOI
Net Operating Income
Typical: Varies by asset
Net operating income is the property's gross revenue minus operating expenses, excluding debt service, capital expenditures, and income taxes. NOI is the foundation of virtually every underwriting metric in commercial real estate. Lenders will scrutinize both historical NOI trends and projected future NOI, often applying their own assumptions about vacancy, rent growth, and operating expenses that may differ from the borrower's projections.
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