Understanding the Capital Stack in Commercial Real Estate

When it comes to financing commercial real estate deals, one term every investor, owner, or developer should understand is "the capital stack." Whether you're buying a retail center, redeveloping a mixed-use building, or syndicating a multifamily deal, the capital stack determines who gets paid, how risk is distributed, and what kind of returns each party receives.

Let’s break it down.

What Is the Capital Stack?

The capital stack is the hierarchy of capital used to finance a real estate project. It outlines the layers of funding sources—from the most secure to the riskiest—and determines the order in which investors or lenders are repaid in the event of a sale, refinance, or default.

The Four Common Layers of the Capital Stack

1. Senior Debt

• Lowest risk, lowest return

• Provided by a bank or institutional lender

• Secured by a first lien on the property

• Gets paid first, typically via regular mortgage payments

2. Mezzanine Debt

• Higher risk than senior debt, higher interest rate

• Typically unsecured or backed by equity pledges

• Fills the gap between senior debt and equity

• Paid only after senior debt is satisfied

3. Preferred Equity

• A hybrid between debt and equity

• Investors receive a preferred return before common equity gets anything

• May or may not have voting rights

• Doesn’t typically benefit from upside appreciation

4. Common Equity

• Highest risk, highest potential return

• Owners, developers, and equity investors fall into this category

• Last to get paid but first to enjoy profits after everyone else is satisfied

• Participates in property appreciation and tax benefits

Why Does the Capital Stack Matter?

Understanding the capital stack helps you:

• Mitigate risk by knowing your position in the payout order

• Negotiate more effectively with partners, lenders, and equity investors

• Structure deals that align incentives for everyone involved

• Raise capital strategically depending on the nature and phase of your project

Capital Stack in Action: An Example

Let’s say you're buying a $10 million retail center:

• Senior Debt: $6.5 million (65%)

• Mezzanine Debt: $1 million (10%)

• Preferred Equity: $1.5 million (15%)

• Common Equity: $1 million (10%)

In this example, the capital stack lets you raise 90% of the deal’s cost from outside sources while preserving upside for your equity investors.

Final Thoughts

The capital stack is more than just a financing tool—it’s a roadmap for how money flows in and out of a deal. Whether you're structuring your first syndication or negotiating with lenders on a value-add project, understanding where each dollar sits in the stack is essential to making smart, strategic decisions.

Interested in more financing insights like this? Check out the rest of our blog or reach out for a one-on-one consultation. We’re always happy to walk through creative deal structures or connect you with financing partners.