In brief
- Debt funds can offer property investors greater speed, flexibility and leverage than traditional banks, particularly for more complex transactions or where timing is tight.
- They can also offer more flexibility around the structure of a facility, including drawdowns, repayment terms and covenants.
- This will usually come at a higher cost, and borrowers should also consider the lender's ability to fund future drawdowns.
- The right choice will depend on the particular transaction and the investor's priorities, including the leverage required and the importance of speed and flexibility.
Debt funds are a firmly established part of the real estate finance sector, with many property investors turning to them ahead of traditional banks. This article takes a look at when a debt fund may be the better choice for a property investor and the risks that they should consider before making that choice.
When does a debt fund make more sense than a bank?
Speed is usually the first thing property investors mention. Banks have to work through regulatory capital rules, liquidity requirements and layers of internal sign-off, which can slow down credit decisions. Debt funds tend to run leaner: fewer people need to say yes, so a term sheet can land in days instead of weeks. If an investor is bidding for an asset in a competitive market, or racing to hit an exchange or refinancing deadline, the speed at which a lender can act may make or break the deal.
Traditional bank lenders tend to prefer assets that sit comfortably within their risk limits and sector caps, whereas debt funds will often be more flexible and willing to finance more complex assets. Terms will also be negotiated directly between borrower and lender rather than pulled off a standard template, so debt funds may have more scope to tailor drawdowns, repayment schedules, interest rates and covenants around the deal. Many debt funds also specialise – by sector, deal size or risk profile – so a borrower can sometimes find a fund whose appetite is genuinely aligned with the deal, rather than fitting the deal to a bank's standard product.
Debt funds are not tied down by the same capital rules banks answer to, which usually means more leverage is on the table. A bank might cap senior debt at around 50-60% LTV; a debt fund running a whole loan or stretched senior facility can push well past that. And if the senior lender still cannot stretch far enough, the gap doesn't have to derail the deal. Mezzanine debt, slotted in between senior debt and equity, is increasingly how investors get to 70-80% of cost, even when no single lender wants to underwrite the whole transaction. Debt funds tend to be the ones writing those junior tranches, since the higher yield compensates them for taking a subordinate position.
The risks of choosing a debt fund
The advantages of debt fund lending do come with trade-offs. The most obvious is price: interest rates and fees on debt fund facilities are typically higher than bank pricing, reflecting the greater risk the lender is taking on and the flexibility it is offering in return.
There is also the question of who is standing behind the money. Banks lend from their own balance sheets; many debt funds lend through special purpose vehicles that draw on committed but not always unlimited capital, so it is worth understanding whether a lender can actually fund future drawdowns before signing up to a facility that depends on them. If a borrower gets into difficulty, a debt fund that has already deployed its capital may not be able to fund further drawdowns under the same facility.
None of this makes a debt fund the wrong choice. It just means the same due diligence an investor applies to the underlying asset should be applied to the lender: track record, capitalisation and how the fund has behaved when deals have gone off plan.
Conclusion
There is no single right answer here. It comes down to the investor's strategy, how much leverage is required, and how much speed and flexibility are worth against the extra cost and risk. And choice is no longer binary: banks and debt funds are finding ways to work alongside each other on the same transaction. But whichever route an investor takes, working through the trade-offs early and talking to lenders about structure, leverage, recourse and their own capacity to fund will save investors from delays and headaches later on.