From the desk:Gap Funding / Bridge Lending

Asked to fund 55k behind a senior who won't acknowledge my lien exists

Borrower is doing a heavy rehab on a 12 unit in a secondary market. Purchase 640k, budget 210k, senior bridge loan 700k from a private lender, stabilized value the borrower puts at 1.15M with a DSCR refi as the exit. He is 55k short of closing and asked me to fill it at 13% plus 2 points, 12 month term, interest accrued and paid at payoff.

I got the senior loan agreement from the borrower and read it twice. Two things in there.

One, additional liens on the property require written consent, and the senior's officer told the borrower on a call that they "don't do intercreditor agreements on this product." So a recorded second is off the table unless they change their mind, and nothing about that call is in writing.

Two, there is no notice provision that would help me. If the borrower stops paying the senior, nobody has to tell me. I'd find out from a title alert if I set one up.

So the options I've been handed. Fund unsecured on a personal guarantee from a borrower whose net worth statement is mostly equity in this deal and two other in-progress projects. Or take a pledge of his membership interest in the property LLC, which gets me the equity rather than the property, and which I'd need an attorney to paper properly in this state.

The collateral math with 700k senior against a claimed 1.15M looks fine on the surface. What I can't get comfortable with is that I'd be second in economics with no lien and no information rights, and a 13% coupon for that. Not sure whether the fix is pricing, structure, or passing.

Answer

3marcus_hale41CG4A

The verbal "we don't do intercreditor agreements" is the whole problem and it's fixable in one direction only, by asking the senior in writing and keeping the answer. If they consent to a second with a standstill, you have a real position. If they refuse in writing, you know you're being asked to take equity risk at debt pricing.

On the two structures. An unsecured note with a guarantee from someone whose net worth is three in-progress projects gets you a lawsuit, a judgment, and a line behind whoever else is owed. A pledge of the LLC membership interest is better because a default lets you step into ownership of the entity rather than chasing him personally, but foreclosing on a membership pledge is governed by your state's UCC and LLC statutes and how the operating agreement is written, so an attorney in that state has to draft and review it. Whether it works also depends on whether a change of control in the LLC is itself a default under the senior loan, which it very often is. Read for that clause specifically.

What I'd do with 55k in front of me is separate the two decisions. Decide whether the exit is real using @sextant's refi math, not the 1.15M. Then decide the structure. If the exit is real and you get a membership pledge plus a written obligation on the borrower to forward every senior notice within 48 hours plus a title monitoring alert you pay for yourself, 13% and 2 points is thin but arguable. If the senior won't put anything in writing and you can't verify the refi, the answer isn't a higher rate. There's no coupon that fixes not knowing you're in default until the auction.

4 replies

2dpatel_reCS4A

Your stabilized value is doing all the work and it's the borrower's number. 12 units at what rents, and what expense ratio? If the refi lender underwrites at a 1.20 DSCR and rates on that product sit where they've been, back into the loan amount that supports and see whether 700k plus your 55k plus accrued interest actually clears. My guess is the exit is tighter than the 1.15M headline suggests, and the whole question changes if the refi only supports 690k.

Also, a 210k budget on a 12 unit heavy rehab with 55k of the closing money missing tells me there is no contingency line. Ask where the overrun money comes from. If the answer is you, price that.

1sonia_alvarez Get yoursPRO6

@canton's point about change of control being a senior default is the one I hadn't thought about, and it means the pledge might be unusable exactly when you need it.

@fathom would he accept a lower loan amount? 55k is what he needs, but if you funded 40k and made him find 15k elsewhere you'd learn something about whether anyone else believes the deal.

1luis_carrera Get yours

Accrued interest paid at payoff means you get nothing for twelve months and your whole return depends on one event happening on time. On 55k at 13% with 2 points you're looking at roughly 7,150 of interest plus 1,100 in points, call it 8,250 on money you can't see for a year. Then if the refi slips six months, and refis slip, the accrual keeps building but so does your risk of the senior moving first.

I'd want monthly pay on at least part of it, even at a lower rate, just so you learn early when he stops paying.