Senior Debt vs Mezzanine Finance: How They Work Together in Your Capital Stack

Senior debt is the primary loan facility in a property development’s capital stack. It has first priority over all other creditors - if the project fails and the asset is sold, the senior lender is repaid first. This lower risk position is reflected in lower interest rates, typically from 6.5% per annum.

Senior lenders will typically fund up to 65-70% of the Gross Development Value (LTGDV), covering both land acquisition and construction costs through staged drawdowns. The loan is secured by a first charge over the development site.

For most property developments, senior debt forms the foundation of the funding structure. It is the cheapest layer of capital and the one that defines the parameters for everything above it.

Mezzanine finance is a subordinated loan that sits behind senior debt. It has a second charge over the property and is repaid only after the senior lender has been fully repaid. This higher risk is reflected in higher rates, typically from 12% per annum.

Mezzanine stretches your total borrowing from the 65-70% LTGDV of senior debt up to 85-90% LTGDV. The mezzanine lender fills the gap between what the senior lender will provide and what you can contribute as equity.

Think of it as a bridge between cheap senior debt and expensive equity. It costs more than senior debt but less than giving away a share of your profits to an equity partner.

When senior debt and mezzanine are used together, the two lenders enter into an intercreditor agreement (ICA). This legal document governs how the lenders relate to each other and, critically, what happens in a default scenario.

Key ICA provisions include: the mezzanine lender cannot enforce its security without the senior lender’s consent, the senior lender is repaid in full before any mezzanine recovery, and the mezzanine lender may have ‘cure rights’ allowing it to step in and fix defaults before the senior lender accelerates the loan.

The ICA negotiation can take 2-4 weeks and is a significant part of the legal cost. Using a broker who has pre-agreed ICAs with regular lender pairings can save considerable time and legal fees.

Priority: Senior debt has first charge and first claim on recovery. Mezzanine has second charge and is repaid only after the senior lender is made whole.

Rates: Senior debt from 6.5% p.a. Mezzanine from 12% p.a. The rate difference reflects the additional risk the mezzanine lender carries.

LTV coverage: Senior covers 0-70% LTGDV. Mezzanine covers the 70-90% LTGDV tranche. Together they reduce your equity requirement to 10-15% of total costs.

Drawdown: Both typically use staged drawdowns aligned to the build programme. The senior lender draws first on each stage, with the mezzanine lender funding its proportion of each drawdown.

Security: Senior takes first charge. Mezzanine takes second charge. Both are secured against the same development site.

Consider a development with a GDV of £5M and total costs (land + build + fees) of £3.75M. A typical capital stack might be: senior debt at 65% LTGDV = £3.25M, mezzanine at 85% LTGDV = additional £1M (covering the 65-85% tranche), and developer equity of £562,500 (15% of costs).

The blended cost of debt in this scenario: senior debt at 7% on £3.25M = £227,500 p.a., plus mezzanine at 13% on £1M = £130,000 p.a. Total annual interest: £357,500, or a blended rate of approximately 8.4% on £4.25M total borrowing.

Without mezzanine, the developer would need £1.56M in equity (35% of costs) instead of £562,500. Mezzanine freed up almost £1M of capital that can be deployed to other projects.

Use both when the project has strong margins (20%+ profit on GDV) that can absorb the blended cost of debt, when you want to maximise leverage to free capital for other projects, and when you have enough track record for both lenders to back you.

Avoid stacking when margins are thin (below 15% on GDV), when the project carries significant planning or build risk, or when you are a first-time developer - mezzanine lenders typically require a demonstrated track record.

Construction Capital arranges both layers simultaneously, ensuring the senior and mezzanine terms dovetail and the intercreditor agreement is pre-agreed before you commit to either facility.

For developers exploring other funding options, we also arrange bridging loans and commercial mortgages. You may also find these guides useful: CIL & Section 106 Obligations, Development Finance vs Bridging Loans, Section 106 & Affordable Housing Finance Guide. When comparing property finance options, consider the regulatory framework: the Financial Conduct Authority (FCA) regulates certain types of lending, while RICS standards govern valuations across all product types. HM Land Registry registration applies to all secured lending, and Building Regulations compliance affects the exit valuation regardless of which finance product you use.