Same sponsor, same deal: 8 percent preferred equity or a 10 percent loan for the IRA money

A sponsor I've followed for a while is capitalizing a value-add deal and gave me two ways in with the same 150k. Preferred equity at 8 percent current with a share of the upside, or a second position loan at 10 percent flat, interest only, two year term.

The equity has the better headline over the life of the deal if the business plan works. It also sits behind roughly 60 percent senior debt, and the debt-financed share of the income drags the unrelated business income tax into the account, filed on a 990-T with a threshold near a thousand dollars and trust rates that climb fast. Call the filing and preparation cost a real number before you even get to the tax itself. My own estimate haircuts the 8 percent by a bit over a point and a half once the tax on the levered portion and the return filing are in, but that's my arithmetic on my assumptions and a CPA has to run the actual return.

The loan is interest income. Passive, outside the unrelated business tax, no 990-T, no filing cost. Ten percent arrives as ten percent. It also caps at ten percent forever, my position is behind a senior lender who can wipe me out in a workout, and my recovery in a bad outcome depends on remedies that vary by state and on what the intercreditor agreement actually permits.

So the debt pays more today after tax and gives up all the upside. The equity pays less after tax and might pay a lot more at exit. What assumption is doing the work in your answer?