Investing in EB-5 projects can be a complex endeavor, requiring a deep understanding of the capital stack, the various components that make up the financing structure and the financial risks they present. In this blog post, we will explore the key elements that investors in EB-5 need to evaluate when assessing a real estate development project. Drawing from expert insights, we will demystify the capital stack, its significance, and the critical factors investors should consider.

The Foundation: The Developer’s Motivation

At the heart of every development project lies a motivated developer seeking to bring their vision to life. Strategically, developers either aim to sell a completed asset or manage the asset long-term. Whichever strategy they choose will usually influence the way they build their capital stack. In short, a developer’s financing strategy for long-term or short-term asset holds should align with the property’s cash flow potential, market conditions, property type, and risk management strategies.

The developer typically contributes 5% – 30%, or higher, of their own capital to fund projects. It is important that the developer invest this capital as the “last money out”, so lenders, EB-5 investors and other investors can gain comfort that the developer is putting substantial capital at risk and understands that almost everyone else will be repaid before they are, which further motivates the developer to complete the project on time and within budget. Developer equity typically funds purchased land, pre-development costs, development of construction documents, zoning, land entitlements, demolition, and/or civil site work, and could also include a portion of the soft and hard costs of construction and working capital to commence operations once the facility is constructed.

The Senior Loan: Primary Component of the Capital Stack

One crucial element of the capital stack is the senior loan, typically the largest portion of the financing. In the United States, most projects secure a mortgage loan, with lenders seeking security through a first position lien on the property. This allows them to foreclose on the property if the loan is not repaid, giving them the ability to sell or redevelop the project if they choose.

Construction and Permanent Loans: Regional banks and Institutional Lenders typically provide construction loans, limiting the loan-to-value ratio (LTV) to 60-65% of the capital stack. In certain cases, this ratio may be pushed to 70%, although the ratio has been decreasing as the real estate market tightens and interest rates have risen. It is important to note that LTV ratios can vary depending on the lender, the borrower’s creditworthiness, asset type and the size of the loan. Construction loans usually have a floating interest rate, currently around 300-500 basis points (bps) over the Secured Overnight Financing Rate (SOFR). This means that a borrower would pay an interest of 8.3% – 10.3% on a construction loan, assuming a SOFR rate of 5.3% in today’s market. The mortgage amount is based on the project’s net operating income.

In commercial real estate, both construction loans and permanent loans play crucial roles at different stages of a development project. Here are the differences between them:

Construction Loan

Use: Construction loans are short-term loans used to finance the cost of constructing a new building. These funds can be used for labor, materials, and other related costs involved in the construction process.

  • Term: These loans typically last for the duration of the construction period, which usually ranges between 6 months to 2 years, depending on the project’s complexity.
  • Interest Rate and Payment: Construction loans often have variable interest rates. Interest is usually paid only on the drawn amount and not the total loan commitment. The principal is typically repaid at the end of the construction period.
  • Loan-to-Value (LTV): Lenders for construction loans generally offer lower LTVs due to the higher risk associated with construction projects. It’s common for lenders to offer a loan covering 60% to 70% of the project’s appraised value.
  • Draws: The loan proceeds are often disbursed in stages, or “draws,” as the construction progresses and after certain milestones are met.
  • Risk: These loans carry significant risk, as they rely on the completion of a project that does not yet exist. Delays or cost overruns can greatly affect the feasibility of the project.

Permanent Loan

Use: Permanent loans, also known as long-term or take-out loans, are used to repay the short-term construction loan and provide longer-term financing once the building is complete and producing income. These funds can be used to pay off construction debt, refinance existing debt, or purchase a completed building.

  • Term: These loans usually have a term of 5 to 20 years, or even longer.
  • Interest Rate and Payment: Permanent loans often have a fixed interest rate. Both the principal and interest are typically repaid over the loan term in a series of regular payments.
  • Loan-to-Value (LTV): Lenders for permanent loans usually offer higher LTVs than construction loans, typically around 70% to 80% of the property’s appraised value.
  • Amortization: Permanent loans usually involve an amortization schedule, which is a detailed outline of how the loan’s principal and interest will be repaid over time.
  • Risk: These loans carry lower risk than construction loans, as they are issued for a completed project that is usually already generating income.

In conclusion, construction and permanent loans serve different purposes in a commercial real estate project’s lifecycle. A construction loan is used to fund the building phase, while a permanent loan provides longer-term financing after the project is completed.

Government Assistance: Offsets, Tax Incentives, and Grants

Developers can leverage government assistance in the form of tax incentives or grants to reduce their equity requirement. These initiatives contribute to the project’s brand and net operating income by reducing costs. State and city grants, as well as low-interest loans, can provide substantial commitments, significantly reducing the developer’s equity contribution.

While the specifics of government incentives and assistance available to commercial real estate developers can vary over time and between jurisdictions, there are several key types of incentives typically offered by local, state, and federal governments across the United States. Here’s a broad outline:

  • Tax Incentives: These are often the most substantial form of government assistance. They can come in various forms, such as property tax abatements, sales tax exemptions, or income tax credits. Examples include the Low-Income Housing Tax Credit (LIHTC) or Historic Preservation Tax Credits at the federal level.
  • Tax Increment Financing (TIF): This is a public financing method used for redevelopment and community improvement projects. The future tax revenues of the improved property are used to finance the present cost of the project. The logic is that the improvements will lead to increased property values, hence higher tax revenues, which are then used to repay the costs of the project.
  • Grants and Loans: Some government agencies offer grants and low-interest or forgivable loans to encourage development in certain areas or for certain types of projects. For example, the U.S. Department of Housing and Urban Development (HUD) offers various grants and loan programs.
  • Land Use Incentives: These include things like zoning variances or fast-tracked permitting to encourage specific types of development. In some cases, higher density or additional building height may be allowed in exchange for the developer providing public amenities or affordable housing units.
  • Public-Private Partnerships (PPP): In these arrangements, a government entity collaborates with a private developer to carry out a real estate project. The government may contribute land, financing, or other resources, while the developer takes on the task of construction and management.
  • Opportunity Zones: Established by the Tax Cuts and Jobs Act of 2017, this program offers tax incentives for investments in designated economically distressed communities. Developers can defer tax on any prior gains invested in a Qualified Opportunity Fund (QOF) until the investment in the QOF is sold or exchanged or until December 31, 2026.
  • New Market Tax Credits: This federal program provides tax credit incentives to investors for equity investments in certified Community Development Entities, which invest in low-income communities.
  • EB-5 Investor Program: This is a federal program that allows individual investors (and their spouses and unmarried children under 21) to apply for a green card (permanent residence) if they make an investment in a commercial enterprise in the United States that plans to create or preserve 10 permanent full-time jobs for qualified U.S. workers.

Please note that these are general descriptions, and the specifics can vary widely. Some programs have complex requirements or restrictions, and the benefits can be contingent on meeting certain goals or criteria.

EB-5 Investment: Filling the Capital Gap

The developer equity, senior debt and government incentives can fill up to 70% – 90% of the capital stack on average. EB-5 capital can play a pivotal role in filling the remaining capital gap, once all the government incentives have been identified and the level of developer’s equity is considered. EB-5 capital typically offers a lower cost of capital compared to private market options and serves a similar purpose as a mezzanine loan. EB-5 investments typically average around 10% – 30% of the overall capital stack and is often aligned with the developer’s equity stake in well-structured deals.

Understanding the EB-5 Capital Stack Order and Risks

The capital stack, from top to bottom, includes the senior loan, mezzanine loan, government grants or agency loans, preferred equity, and equity. In theory, EB-5 capital can be everything from the senior lender down to the equity position, however it often sits just above the equity position in most projects. Mezzanine lenders, while costly, may be sought if other capital sources are not available. However, they pose risks to both the developer and the EB-5 investor. If the project fails, the mezzanine lender can foreclose, potentially wiping out all investments. EB-5 investors have limited recourse and their priority depends on the surplus, if any, from the foreclosure sale.

The capital stack in a commercial real estate development project refers to the legal organization of all capital placed into a project, including both debt and equity. From least risky to most risky, the order typically goes as follows:

  1. Senior Debt: This is typically the largest portion of the capital stack and is usually provided by a bank. It is the least risky because it has the first claim on the property and its cash flow. The lender has the right to foreclose on the property if the borrower defaults on the loan. Because of its lower risk, it also has the lowest return, usually in the form of a fixed or floating interest rate.
  2. Mezzanine Debt: This is a hybrid form of debt and equity financing that gives the lender the right to convert to an ownership or equity interest in the company if the loan is not paid back in time and in full. It is subordinate to senior debt but superior to equity. The returns are generally higher than senior debt to compensate for the higher risk.
  3. Preferred Equity: This layer of the capital stack has a higher risk than debt but is less risky than common equity. Preferred equity investors have a claim to the property’s profits after the debt service has been paid but before the common equity holders. In the event of a default, preferred equity holders have a higher priority than common equity holders but less than debt holders. They get a specified, fixed rate of return, which is usually higher than debt to compensate for the risk.
  4. Common Equity/ Joint Venture Equity: The riskiest part of the capital stack is the common equity, also known as the owner’s, or developer’s, equity. It includes the money invested by the property’s owners or developers and their partners. Common equity holders are the last to be paid in the event of a default or bankruptcy, so they assume the most risk. However, they also stand to gain the most if the project is successful, as there is no cap on their potential returns like there is for lenders and preferred equity investors.

In terms of risk, senior debt is the least risky, followed by mezzanine debt, preferred equity, and then common equity. The riskier the layer, the higher the expected return to compensate for the increased risk. The exact structure of a capital stack can vary depending on the specifics of the project, the developer’s relationship with their lenders and investors, and the overall risk and potential return of the project.

Government grants and loans can take on different positions within the capital stack depending on their specific terms.

Government Grants: Grants are often non-dilutive, meaning they do not take ownership stakes and do not need to be repaid. As such, they do not typically have a direct place in the capital stack as they do not create a liability, nor do they require a return or dilute ownership. They effectively reduce the capital needed for the project and therefore could indirectly reduce the amount of equity or debt needed.

Government Loans: The position of government loans within the capital stack can vary greatly depending on the terms of the loan. Some loans may take a senior position, others may be subordinate to certain forms of private debt, and some may operate more like mezzanine financing.

  • Senior Position: If a government loan has been structured to be repaid before other forms of debt, it would take a senior position in the capital stack. These loans typically have lower interest rates than other types of debt and can be an attractive form of financing for developers.
  • Subordinate Position: If a government loan has been structured to be repaid after other forms of debt, it would be in a subordinate position, similar to mezzanine debt. These loans might have higher interest rates than senior debt but could offer more flexible repayment terms.
  • Mezzanine-Like Position: Some government loans may have flexible repayment terms and conditions that resemble mezzanine financing. For example, some government loans may be converted into grants if certain conditions are met.

Government financing can also sometimes come with conditions or restrictions, such as the need to create a certain number of jobs, use certain types of construction materials or techniques, or maintain affordability for a certain number of years. As such, while they can provide valuable capital for a project, they can also introduce additional considerations and complexity into the project’s financing structure.

Real Estate Expertise and Due Diligence

Investors in EB-5 projects should have a solid understanding of real estate dynamics and the intricacies of a project’s structuring. While the owners and management teams of some EB-5 regional centers possess backgrounds and a strong track record as alternative lenders, many do not. It is crucial for regional centers to act as a seasoned alternative lender and engage in the structuring process accordingly to protect investors and secure favorable deals.


Evaluating the capital stack in an EB-5 development project is a crucial step for investors. Understanding the components, their order, and the associated risks is essential for making informed investment decisions. By comprehensively assessing the financing structure and leveraging real estate expertise, EB-5 investors can mitigate risks and maximize their potential returns.

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