The preferred return clock is the sleepiest clause in any development operating agreement until the project is late
A 24-month construction schedule that runs to 30 months is common enough that nobody panics. What they miss is that six months of accrued preferred return on, say, $4 million in LP capital at an 8 percent preferred compounds into roughly $163,000 in additional return that now sits ahead of any promote. If the preferred is cumulative and non-compounding, that number is straightforward. If it compounds, the figure grows, and the promote threshold the sponsor expected to hit at stabilization moves further out than the proforma ever showed. The clause that decides this is usually written in one sentence and read once. I have seen operating agreements where the preferred accrues from the date of capital contribution, and others where it starts at certificate of occupancy. That single sentence is worth more than the waterfall schedule it sits ten pages away from. The question the room seems to skip is what counts as a return of capital when a partial distribution hits during lease-up. If a project distributes operating income before stabilization and the agreement does not specify whether that distribution reduces the capital balance first or satisfies current preferred first, a dispute lives in that silence. The sponsor reads it as return of capital, which resets the preferred accrual base downward. The LP reads it as preferred income, which leaves the full capital base still accruing. Courts in most states default to the agreement's plain language, and when the language is plain on nothing, they default to the LP's reading more often than sponsors expect. What does your current operating agreement say happens to the preferred accrual clock when a construction draw comes back under budget and the lender releases contingency funds before CO?
