Mini-perm financing is short-term financing typically used to pay off income-producing construction or commercial or multi-family properties, usually payable in three to five years. In this case, "perm" is short for "permanent", alluding to permanent financing. Commercial properties often cannot qualify for long-term, permanent financing until they've established operating histories. Mini-perm loans, therefore, are used to pay off the construction loans and bridge the gap until the property can qualify for permanent financing.
During the last year it seemed as though mini-perm financing, which has tended to be more prevalent in the United States, might become a more standard way to finance PPP projects in Europe. This is not because of any perception of increased risk in PPP projects, but rather as a result of funders’ issues with long-term debt.
Generally, mini-perm loan financing is used to pay off construction or commercial property loans at the beginning of a particular project or investment. Once a project is completed and starts producing income, the borrower can begin to look for a more long-term financing solution. The loan carries a balloon payment at the end of the term with the anticipation that the loan can then be easily refinanced due to the fact that the property now has an operating history on which to successfully obtain permanent financing.
So how would this work in the context of a PPP structure, which by it’s very nature requires a long-term funding solution at the outset? There are two types of mini-perm financing available, namely:
- hard mini-perm; and
- soft mini perm.
A hard mini perm is a project finance structure where legal maturity is set typically around 7 years, forcing the borrower to refinance before maturity or face default. A soft mini-perm is a structure without this default risk, where the loan maturity remains long-term but whereby increasing incentives are in place to encourage the borrower to refinance.
Advantages of the hard mini-perm include the obligation on the borrower to refinance, which refinancing would be at prevailing market rates, and the fact that funders will be able to price on a short-term basis which also allows the repayment of their upfront fees over a shorter period.
The main disadvantage is of course the introduction of a new, possibly unnecessary, default risk for all parties (funders, borrower and Government). Upon default, the funders may lose control to an administrator and have to allocate more capital to the project. In contrast, a soft mini perm sets out the contractual remedies available to funders and no additional capital is required. Unsurprisingly, the soft mini-perm is the structure more favoured by the market generally.
In practice there has been little evidence of any marked uptake for mini-perms as a financing solution. Soft mini-perms have been used on a few PFI projects in the UK but we see no indication that this is part of a wider trend. Long-term funding is still available in the banking market which, although especially eager to seek out new sources of funding in these straitened times, does not seem to have found the solution it is looking for in the form of mini-perms.