How to Finance a Commercial Real Estate Acquisition

Introduction

Every commercial real estate acquisition begins with a capital question: how do you fund the deal in a way that maximizes returns, manages risk, and aligns with your investment strategy?

The answer is never one-size-fits-all. The right financing depends on the property type, the business plan, the hold period, the sponsor's track record, and the capital markets environment at the time of execution. A stabilized multifamily asset in a primary market calls for a fundamentally different capital structure than a value-add office repositioning in a secondary market.

This guide walks through the full financing process for a commercial real estate acquisition, from evaluating capital sources to structuring the capital stack to executing from term sheet through closing.

Step 1: Define Your Investment Strategy

Before approaching any lender, the financing strategy must follow from the investment thesis. The capital structure should serve the business plan, not the other way around. The key questions that shape every financing decision:

What is the property's current condition? A stabilized asset with 90%+ occupancy and predictable cash flow qualifies for permanent financing at the lowest available rates. A transitional property requiring renovation, lease-up, or repositioning will need bridge financing or a construction loan before permanent debt becomes available.

What is the hold period? A long-term hold favors fixed-rate permanent financing that locks in debt service costs for 10 to 30 years. A shorter-term value-add strategy with a planned exit in 2 to 5 years may be better served by floating-rate bridge debt with prepayment flexibility.

How much leverage do you need? The target loan-to-value (LTV) or loan-to-cost (LTC) ratio determines which capital sources are available and whether subordinate capital (mezzanine debt or preferred equity) is necessary to fill the gap between senior debt and sponsor equity.

What is your risk tolerance on recourse? Some capital sources offer non-recourse execution while others require personal guarantees. This is often one of the most consequential terms in the financing.

Step 2: Understand Your Capital Sources

Commercial real estate financing comes from a diverse landscape of capital providers, each with different underwriting criteria, pricing, terms, and flexibility. The primary sources include:

Banks and Credit Unions. Relationship-driven lenders that hold loans on their balance sheets. Banks offer competitive rates for existing customers, flexible underwriting, and the ability to finance smaller or transitional properties. Most bank loans are recourse with shorter terms (3 to 10 years). Banks are particularly competitive for local borrowers, owner-occupied properties, and deals that benefit from a direct lender relationship.

Life Insurance Companies. Life companies invest policyholder premiums in commercial real estate loans, offering the lowest available rates for institutional-quality assets. They lend conservatively (55% to 70% LTV) on stabilized properties in primary markets with experienced sponsors. Life company loans are non-recourse with fixed rates for 10 to 30 years, and borrowers deal directly with the lender for the life of the loan.

CMBS Conduit Lenders. CMBS loans are originated and then securitized, pooled with other mortgages, and sold to bond investors. This model allows CMBS lenders to offer higher leverage (up to 75% LTV), non-recourse execution, and competitive rates across a broad range of property types and markets, including secondary and tertiary locations. The trade-off is rigid terms, third-party servicing, and costly prepayment through defeasance or yield maintenance.

Agency Lenders (Fannie Mae and Freddie Mac). Government-sponsored enterprises that provide the most competitive financing for stabilized multifamily properties. Agency loans offer up to 80% LTV, non-recourse terms, fixed rates for up to 30 years, interest-only options, and full assumability. Agency lending is exclusively for multifamily (typically 5+ units).

Debt Funds and Private Lenders. Non-bank capital providers including private credit funds, family offices, and specialty lenders. Debt funds focus on bridge lending, mezzanine debt, and higher-leverage transactions that traditional lenders avoid. They offer speed, flexibility, and creative structuring at higher rates. Debt funds are particularly valuable for value-add acquisitions, complex capital structures, and situations where timing is critical.

HUD/FHA. Government-insured programs offering the highest leverage (up to 87% LTV) and longest terms (35 to 40 years, fully amortizing) for multifamily properties. HUD loans are non-recourse and fully assumable but require a longer approval process and regulatory compliance including Davis-Bacon wage provisions for construction.

C-PACE Providers. C-PACE finances eligible energy efficiency and resilience improvements through a property tax assessment, providing 20 to 30 year fixed-rate, non-recourse financing. While not a primary acquisition loan, C-PACE can reduce equity requirements by funding eligible building components that would otherwise come out of the sponsor's capital contribution.

Step 3: Structure the Capital Stack

The capital stack is the layered structure of financing used to fund the acquisition. Each layer carries a different risk profile, cost of capital, and priority of repayment. A well-structured capital stack minimizes cost of capital while maintaining the right balance of leverage and risk.

Senior Debt (50% to 75% of capital stack). The first mortgage on the property, held in the most senior position. Senior debt has the lowest cost of capital, the first claim on property cash flows, and priority in the event of default. Sources include banks, life companies, CMBS, and agency lenders. The maximum senior loan amount is determined by the most restrictive of three metrics: LTV (loan-to-value), DSCR (debt service coverage ratio), and debt yield.

Mezzanine Debt (10% to 20% of capital stack). A subordinate loan secured by a pledge of ownership interests rather than the property itself. Mezzanine debt fills the gap between the senior mortgage and equity, allowing total leverage of 75% to 90%. Rates typically range from 10% to 15%. The senior lender must approve mezzanine financing through an intercreditor agreement.

Preferred Equity (5% to 15% of capital stack). An equity investment with priority distributions ahead of common equity. Preferred equity serves a similar gap-filling function as mezzanine debt but is structured as equity rather than debt. This distinction affects default remedies, tax treatment, and senior lender approval requirements.

Common Equity (20% to 35% of capital stack). The sponsor's equity and any co-invest from joint venture partners. Common equity has the highest risk (last to be paid, first to absorb losses) and the highest potential return. The sponsor's equity contribution demonstrates commitment to the deal and is typically required to be a meaningful percentage of the total.

Not every acquisition requires all four layers. Many deals are financed with just senior debt and common equity. The decision to add mezzanine debt or preferred equity depends on the sponsor's leverage targets, return requirements, and the senior lender's willingness to permit subordinate capital.

Step 4: Evaluate and Compare Term Sheets

Once the capital strategy is defined and lenders are engaged, the sponsor will receive term sheets outlining proposed loan terms. A term sheet is a non-binding document, but it establishes the framework for the transaction and is the basis for comparing options.

Key terms to evaluate across competing term sheets:

• Loan Amount and Leverage. What is the proposed LTV or LTC? Does it meet the sponsor's leverage target?
• Interest Rate and Index. Is the rate fixed or floating? If floating, what is the index (SOFR) and spread? When is the rate locked?
• Term and Amortization. What is the loan term? What is the amortization schedule? Is there an interest-only period?
• Recourse. Is the loan non-recourse, partial recourse, or full recourse? What are the carve-out provisions?
• Prepayment. What is the prepayment structure? Yield maintenance, defeasance, step-down, or open prepayment? How does this align with the exit strategy?
• Reserves. What escrow and reserve requirements are imposed? Tax and insurance, replacement reserves, tenant improvement reserves, interest reserves?
• Closing Timeline. How quickly can the lender close? Does the timeline align with the purchase contract?
• Lender Reputation and Servicing. Is the lender a portfolio lender (direct servicing) or will the loan be securitized (third-party servicing)?

A capital advisor's role at this stage is to ensure the sponsor is not just comparing rates but evaluating the full cost of capital and structural implications of each option.

Step 5: Execute From Term Sheet to Close

The period between signed term sheet and closing is where execution discipline determines the outcome. This phase typically involves:

Due Diligence and Underwriting. The lender conducts its own analysis of the property, including appraisal, environmental reports, property condition assessment, title review, and financial underwriting. The lender's underwritten NOI may differ from the sponsor's projections, which can affect the final loan amount.

Legal Documentation. Loan documents are drafted and negotiated, including the loan agreement, promissory note, mortgage, guaranty (if recourse), and any intercreditor agreements for subordinate capital. Legal review should focus on default provisions, transfer restrictions, and any terms that could limit operational flexibility.

Rate Lock. For fixed-rate loans, the rate lock timing is critical. Life company loans are often locked at application. CMBS loans are locked closer to closing. In a volatile rate environment, the difference can be significant.

Third-Party Reports. Appraisal, environmental (Phase I and sometimes Phase II), property condition report, seismic assessment (in applicable markets), and zoning confirmation. These are ordered early in the process and must be completed before the lender will issue a commitment.

Closing and Funding. The final step is the closing, where all documents are executed, funds are disbursed, and ownership transfers. A well-managed process anticipates potential issues with title, survey, insurance, or lender conditions and resolves them before the closing date.

Common Mistakes in Acquisition Financing

Optimizing for rate alone. The lowest rate is not always the best execution. A loan with a slightly higher rate but flexible prepayment, non-recourse terms, and better servicing may be worth significantly more over the hold period.

Underestimating closing timelines. Lenders move at different speeds. A life company or HUD lender may take 90 to 120 days. A bridge lender may close in 2 to 4 weeks. Mismatching the financing timeline with the purchase contract deadline can kill a deal.

Ignoring prepayment implications. A sponsor who plans to sell or refinance in 3 to 5 years but locks into a 10-year CMBS loan with yield maintenance may face hundreds of thousands in prepayment costs. The exit strategy must inform the financing structure.

Overleveraging. Higher leverage amplifies returns in favorable conditions but magnifies losses when property values decline, vacancies increase, or interest rates rise. The capital stack should be stress-tested against downside scenarios, not just the pro forma.

Failing to coordinate subordinate capital with the senior lender. Adding mezzanine debt or preferred equity after the senior loan is committed can create conflicts if the senior lender has not approved the structure. Subordinate capital should be part of the initial capital plan, not an afterthought.

How George Smith Partners Advises on Acquisition Financing

George Smith Partners structures acquisition financing across every property type, capital source, and market in the United States. With relationships spanning over 300 institutional lenders including banks, life companies, CMBS conduits, agency lenders, debt funds, and private capital providers, we evaluate each acquisition against the full landscape of available capital.

Our role begins before the first lender conversation. We work with sponsors to define the optimal capital structure, identify the capital sources most likely to deliver the best execution, manage a competitive process that generates multiple term sheets, and oversee the transaction from engagement through closing.

Whether the deal calls for a single senior loan or a multi-layered capital stack with bridge debt, C-PACE, mezzanine, and equity, we engineer the financing to match the investment thesis.