What Is CRE Debt? Types, Structures, and Key Considerations

Commercial real estate (CRE) debt is a crucial component of property financing, enabling investors and developers to secure funding for acquisitions, construction, or refinancing. Unlike residential loans, these financial instruments are designed for income-generating properties such as office buildings, retail centers, and multifamily complexes.

Structuring the right type of debt is essential for managing risk and maximizing returns. Understanding how lenders assess loan terms, collateral, and interest rates helps borrowers make informed financing decisions.

Types of CRE Debt Structures

Financing commercial properties involves different debt structures, each suited to specific investment strategies and risk profiles. Borrowers must choose loan options based on project timelines, cash flow expectations, and long-term financial goals. The most common forms of CRE debt include mortgage loans, mezzanine financing, and bridge financing.

Mortgage Loans

Mortgage loans are the primary form of CRE debt, used for acquiring or refinancing commercial properties. These loans are secured by the property, meaning the lender can foreclose if the borrower defaults. Mortgage loans typically have fixed or variable interest rates and repayment terms ranging from five to thirty years.

Lenders evaluate mortgage applications based on factors like debt-service coverage ratio (DSCR), borrower creditworthiness, and property performance. The DSCR, which measures a property’s net operating income relative to its debt obligations, generally needs to be at least 1.25 to 1.35 for approval. Government-backed loans, such as those from the Small Business Administration (SBA) or Federal Housing Administration (FHA), may offer lower interest rates but have stricter eligibility requirements.

Mezzanine Financing

Mezzanine financing provides additional capital beyond a traditional mortgage, filling the gap between the primary loan and the borrower’s equity contribution. Unlike standard loans secured by property, mezzanine debt is backed by the borrower’s ownership interest in the property-holding entity. If the borrower defaults, the lender can seize control of the entity rather than foreclosing on the asset itself.

Interest rates on mezzanine loans are higher than those on mortgage loans, typically ranging from 8% to 15%, reflecting the increased risk for lenders. These loans are commonly used in large-scale developments, acquisitions, and recapitalizations where additional capital is needed. Borrowers should carefully review intercreditor agreements, which define the rights of mezzanine lenders relative to senior mortgage lenders.

Bridge Financing

Bridge financing is a short-term loan designed for temporary capital needs in real estate transactions. These loans are often used for quick property acquisitions, renovations, or refinancing before securing long-term financing. Bridge loans typically have terms ranging from six months to three years and carry higher interest rates, often between 6% and 12%.

Since bridge loans are structured for quick funding, they have more flexible underwriting criteria than traditional mortgages. Lenders focus on the borrower’s exit strategy—how they plan to repay the loan—such as securing permanent financing or selling the property. Some bridge loans are interest-only, meaning borrowers pay only interest during the term, with the full principal due at maturity. This structure allows investors to improve a property’s value before refinancing into a lower-cost, long-term loan.

Loan-to-Value Considerations

The loan-to-value (LTV) ratio is a key metric lenders use to assess risk. This ratio compares the loan amount to the appraised value of the property, indicating how much equity the borrower has in the deal. A lower LTV suggests the borrower has contributed more capital, reducing lender risk, while a higher LTV means the lender is financing a larger portion of the deal, increasing potential exposure in a default.

Lenders set maximum LTV thresholds based on property type, borrower profile, and market conditions. Stabilized assets with strong cash flow, such as fully leased office buildings or apartment complexes, typically have LTV limits between 65% and 80%. Riskier properties, such as hotels or speculative developments, often have lower limits, around 50% to 60%. Government-backed loan programs, such as those from Fannie Mae or Freddie Mac, may allow for higher LTVs, sometimes up to 85%.

Market cycles influence LTV standards. In economic expansions, lenders may extend higher LTV loans due to rising property values and strong rental demand. During downturns, underwriting becomes more conservative, with tighter LTV limits to mitigate potential losses. Borrowers should consider how shifting market conditions could affect their ability to refinance, as declining property values may require additional equity to meet lender requirements.

Collateral Requirements

Lenders require collateral to secure commercial real estate loans, ensuring they have a claim on valuable assets if the borrower defaults. The primary form of collateral is the property itself, but lenders also assess factors such as location, occupancy rates, and income potential. Properties in high-demand markets with stable tenants are considered stronger collateral than those in declining areas or with high vacancy rates.

Beyond the real estate, lenders may require additional security. This can include personal guarantees, where borrowers pledge personal assets or income streams to cover loan obligations if the property underperforms. Some lenders also use cross-collateralization, where multiple properties are pledged to secure a single loan. This approach is common among investors with large portfolios seeking financing flexibility while minimizing individual loan risks.

Interest Rate Determinants

The interest rate on a commercial real estate loan is influenced by macroeconomic conditions, lender risk assessments, and deal-specific factors. The federal funds rate set by the Federal Reserve plays a significant role in determining borrowing costs. When the Fed raises rates to curb inflation, commercial lending rates typically rise. Conversely, during periods of monetary easing, borrowing becomes more affordable, encouraging property acquisitions and development. Treasury yields, particularly the 10-year Treasury note, also serve as a benchmark for long-term commercial mortgage rates.

Lender-specific risk assessments also impact interest rates. Credit spreads, which represent the additional return lenders demand above a risk-free benchmark, vary based on borrower financial strength and property performance. A borrower with a strong balance sheet, high liquidity, and a solid track record of managing similar assets will likely secure better terms than an investor with limited experience or weaker financials. Loan structure also plays a role—fixed-rate loans, often tied to indices like the Secured Overnight Financing Rate (SOFR) or the Wall Street Journal Prime Rate, provide stability but may have slightly higher initial rates than floating-rate loans, which adjust periodically based on market conditions.

Underwriting Criteria

Lenders rely on a detailed underwriting process to evaluate risk before issuing a commercial real estate loan. This process involves analyzing both the borrower and the property. Borrowers must provide financial statements, tax returns, rent rolls, and operating histories, allowing lenders to assess repayment ability. Underwriters also consider market conditions, comparable property values, and local economic trends that may impact the asset’s future performance.

Debt-service coverage ratio (DSCR) is a key underwriting metric, measuring a property’s ability to generate enough income to cover debt payments. A DSCR of 1.25 or higher is typically required. Loan covenants, such as reserve requirements or restrictions on additional borrowing, may also be imposed to protect the lender’s interests. Borrowers with strong financials and well-performing properties can negotiate better loan terms, while those with higher risk profiles may face stricter conditions or require additional guarantees.

Tax Implications

The tax treatment of commercial real estate debt can significantly impact an investor’s financial strategy. Interest payments on CRE loans are generally tax-deductible, reducing taxable income. However, the Tax Cuts and Jobs Act (TCJA) imposes limitations on business interest expense deductions for certain borrowers, making it important to evaluate financing structures for tax efficiency.

Depreciation is another key tax consideration, as property owners can deduct a portion of the asset’s value each year. The IRS allows commercial properties to be depreciated over 39 years, but cost segregation studies can accelerate deductions by identifying components eligible for shorter depreciation periods. Additionally, cash-out refinances can provide tax-free liquidity, allowing investors to reinvest capital without triggering immediate tax liabilities. Proper tax planning ensures that CRE debt is structured to optimize after-tax returns while aligning with long-term investment goals.