Published On: March 11th, 2024

There are many financing options beyond traditional bank loans available for commercial real estate, and for good reason. These alternatives offer increased flexibility and unique benefits with loan terms tailored to the real estate opportunity. However, they also tend to be more complex to execute, requiring additional oversight from escrow companies to be completed. In this article, we explore five innovative commercial real estate financing options, detailing their implications for borrowers and how they impact the escrow process.

Mezzanine Financing

Mezzanine financing is a creative funding option used in commercial real estate that combines elements of debt and equity option financing. The lender typically receives a higher interest rate and additional fees in exchange for being in a subordinate position in repayment (second in the capital stack) conditions. This type of financing doesn’t require the borrower to give up equity for the loan and offers flexibility in interest rates, payment schedules, and even the possibility of converting the loan into equity under certain conditions making it ideal to secure additional funding for real estate ventures.

Escrow Considerations for Mezzanine Financing

Mezzanine lenders have special rights and obligations that the escrow process must account for their third-party verification of the contract terms and eventual disbursement of funds, especially in case of liquidation or sale. Options that convert the loan into equity only trigger if conditions that both parties agree to transpire, so escrow agents follow instructions within the contract provided by the lenders and borrowers and resolve any complications or disputes that may arise within the contract’s execution.

Sale-Leaseback Transactions in Commercial Real Estate Financing

Sale-Leaseback Transactions for Commercial Real Estate Financing

Under certain circumstances (consult your attorney and CPA about your situation), sale-leasebacks for commercial properties are seen as safer than traditional real estate deals because they offer stable and predictable cash flows for purchasers and continued use of the space for sellers. These sales are more complex but mutually beneficial for both parties and are most common for building owners who want to cash out the equity of a building while still using it for their business operations. It may also be easier for purchasers to raise funds because of the built-in rental income that comes with the deal.

Escrow Considerations for Sale-Leaseback Transactions

Because this financing is so complicated, the sale and lease agreement between the seller (now tenant) and the buyer (now landlord) is carefully reviewed by each party’s counsel or representation. After the sale and lease contracts are agreed upon, the escrow agent oversees the transfer of ownership, disbursement of funds, and execution of the lease agreement simultaneously pursuant to the conditions of the contract. While the sale and lease agreements are up to the buyer and seller, if part of the contract includes prepaid rent or stipulations around security deposits, the escrow process ensures these added terms of the contract are upheld and honored by both parties.

Crowdfunding of Commercial Real Estate

Crowd funding for commercial real estate financing and a brown box with people inserting money

The JOBS act of 2016 includes Regulation for Crowdfunding (Reg CF) that allows non-accredited investors to crowdfund real estate ventures. With a similar concept to a REIT, in that it pools investor money for real estate investments, it differs substantially in that it lets investors choose which projects they’d like to finance with their dollars. Once the funding target for a project is reached, the platform facilitates the investment process, often through a special purpose entity (SPE), and manages the ongoing investment on behalf of the investors.

Escrow Considerations for Crowdfunding of Commercial Real Estate

Funds from users can often go from the platform into an escrow account first and then onto finance an SPE. Platforms typically have their own requirements and stipulations that they’d need the escrow agent to oversee and implement pursuant to the previously agreed-upon contracts in a way that legally protects both the platform and its investors. Funding for commercial real estate projects can also take place in phases, wherein, an escrow company would hold and disburse the funds in each phase according to the platform’s development strategy and transaction documents

Joint Venture Financing

For commercial real estate, joint ventures typically involve combining the team efforts of both investors and developers to get financing for a project but can also include two or more businesses raising funds for the same project with vested interest between them. This multi-entity approach can make obtaining financing easier, reduce the overall risk for the companies involved and allow companies to diversify their business strategy. That said, with each party added to a venture, the more responsibility there is spread across more people, making it critical to get financing and contracting perfect before moving forward.

Escrow Considerations for Joint Venture Financing in Commercial Real Estate

Each party involved in a joint venture has certain rights and responsibilities that must be monitored and upheld, this includes things like fund disbursement deadlines, loan repayment schedules and conditions, and meeting construction benchmarks. With multiple parties there’s a higher chance of contract disputes and the need for an impartial third party, like an escrow agent, to help ameliorate issues as they arise.

CPACE Financing

Commercial property-assessed clean energy (CPACE) is a financing structure provided by the Department of Energy in which building owners or potential owners borrow money for energy efficiency, renewable energy, or other projects and make repayments via an assessment on their property tax bill. In short, it uses borrowed capital to pay for the upfront costs associated with energy efficiency or renewable energy improvements for commercial real estate. This financing arrangement remains with the property even if it is sold, so even if you don’t get this loan yourself, you’re subject to the CPACE loan terms.

Escrow Considerations for CPACE Financing

This is a great financing option for building owners who wish to renovate but can later become a point of negotiation in the building’s sale. If the CPACE assessment on property tax becomes part of the purchasing contract, escrow agents act as a neutral third party to oversee this added complexity of the agreement before it’s completed.

Seeking more information about your commercial real estate transaction? Contact Arizona Escrow today at (602) 956-2629 .

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