In one paragraph
Mezzanine finance and preferred equity are not really alternatives to construction finance so much as an additional layer used when senior construction debt on its own does not cover a project's full capital requirement. Within a mezzanine and preferred equity facility, mezzanine debt is a subordinated loan ranking behind the senior lender, while preferred equity is capital invested into the project entity with a priority return, and developers choose between the two largely on structure and tax treatment rather than fundamentally different economics. The question most developers actually face is whether senior construction debt alone is sufficient, given their available equity and the project's loan-to-cost ratio, or whether a mezzanine or preferred equity layer is needed to bridge the gap.
Side by side
|
Senior construction finance alone |
With mezzanine or preferred equity |
| Typical loan-to-cost |
Up to around 80–90% of cost |
Combined senior and mezzanine can extend meaningfully further |
| Developer equity required |
Higher, to cover the gap above senior debt |
Lower, as mezzanine or preferred equity fills part of the gap |
| Cost of capital |
Lowest blended cost |
Higher blended cost, reflecting the subordinated layer's risk |
| Complexity |
Single lender relationship |
Intercreditor arrangement between senior and mezzanine parties |
| Best for |
Developers with sufficient equity to fund the gap themselves |
Developers preserving equity or without the full contribution available |
When senior construction debt alone wins
Senior construction debt alone wins whenever the developer has sufficient equity to fund the gap between the senior facility and total project cost, and prefers the simplicity of a single lender relationship without an intercreditor arrangement to negotiate. It is generally the lower-cost path overall, since mezzanine or preferred equity capital is priced above senior debt to reflect its subordinated position, so a developer who can fund the gap from their own resources typically achieves a better overall return by doing so rather than bringing in additional capital they did not strictly need.
When mezzanine or preferred equity wins
A mezzanine or preferred equity layer wins where the developer's own equity is not sufficient to bridge the gap above senior debt, or where preserving that equity — for a subsequent project, or simply to reduce personal exposure to a single deal — is a priority even at a higher blended cost of capital. It also wins where a project's feasibility supports the additional capital cost, and bringing in mezzanine or preferred equity is what makes an otherwise unfundable project viable at all. Developers early in their career, or scaling into larger projects than their equity alone can support, are common users of this layer specifically because it lets project size grow faster than personal capital would otherwise allow.
Developers should also consider the signalling effect each choice has on other stakeholders in a project, since bringing in a mezzanine or preferred equity provider can sometimes be read by a senior lender as evidence of a thinner overall equity position in the deal, even where the addition is a deliberate and sensible capital structuring decision rather than a sign of financial strain. Conversely, a developer who can demonstrate senior debt alone comfortably covers the project, with equity to spare, is often viewed as carrying a stronger overall credit profile into future, larger transactions. The decision is rarely made once and forgotten, since a developer scaling from single projects to a broader development pipeline typically finds their approach to mezzanine and preferred equity evolving as their own balance sheet strengthens and their appetite for spreading capital across more concurrent projects grows, and revisiting this question at the start of each new project, rather than defaulting to whatever structure was used last time, tends to produce the better long-term outcome.
Can you use both
Using both is, in effect, the entire point of a mezzanine or preferred equity structure — senior construction debt and the subordinated layer work together, not as alternatives, with senior debt sized first against the project and mezzanine or preferred equity sized to bridge the remaining gap to total cost. The practical work lies in the intercreditor agreement between the senior lender and the mezzanine or preferred equity provider, which governs drawdowns, cure rights and each party's position if the project encounters difficulty, and getting this agreed efficiently is often what determines how quickly a mezzanine-funded project reaches financial close.
Related
Mezzanine & preferred equity · Construction finance · Mezzanine finance · Intercreditor agreement