Commercial real estate syndicators rely on a mix of funding sources to close each deal. Combining equity and debt often complicates how you calculate distributions for limited partners.
Waterfall models are most common in equity deals, yet you can also build a debt waterfall that prioritizes debt obligations across individual assets or real estate funds. Covercy is designed for GPs, so you can configure and automate both equity and debt waterfalls inside your investment management platform.
Ready to see Covercy in action? Sign up for a free trial today.
What is a Distribution Waterfall?
In commercial real estate syndication, a waterfall model allocates profits between the sponsor and limited partners in a structured sequence. It is primarily used in equity deals where returns are less predictable, aligning incentives between sponsors and investors.
A typical equity waterfall follows four tiers:
1. Return of Capital
Investors receive their initial capital contributions before profits are distributed, ensuring the original investment is repaid first.
2. Preferred Return
A predetermined return—often around eight percent annually—goes to limited partners before the sponsor collects profits.
3. Catch-Up
Some waterfalls include a catch-up tier where the sponsor receives most or all profits until their overall share aligns with the agreement.
4. Profit Split
Any remaining profits are shared between investors and the sponsor based on the negotiated split—for example, 70 percent to investors and 30 percent to the sponsor.
Equity Waterfall Example
- Return of Capital: $1,000,000 paid back to investors first.
- Preferred Return: 8% annual return delivered before the sponsor participates in profits.
- Catch-Up: Sponsor receives distributions until they reach 20% of total profits to date.
- Profit Split: Remaining profits are divided 80% to investors and 20% to the sponsor.
What is a Debt Waterfall?
A debt waterfall prioritizes how cash flows are allocated to repay debt obligations within a financing structure. Cash generated by an asset or fund is routed to each tranche in sequence, starting with the lowest-risk position.
Structure of a Debt Waterfall
- Senior Debt: The first tier covers secured loans with the lowest interest rate and risk profile.
- Mezzanine Debt: The next tier services higher-risk capital that commands a higher return.
- Subordinated or Junior Debt: Remaining cash flows pay junior debt holders who take on the most risk.
- Equity Holders: After every debt obligation is satisfied, any residual cash is distributed to equity investors.
Contractual terms can add cash reserves, payment triggers, or performance covenants, so each debt waterfall should mirror the deal’s documentation.
Example of a Debt Waterfall in Real Estate
- Cash flow from property: $100,000.
- Senior debt service: $40,000 paid first.
- Mezzanine debt service: $30,000 paid after senior debt.
- Subordinated debt service: $20,000 paid after mezzanine debt.
- Equity holders: $10,000 distributed once every debt tranche is fulfilled.
Debt Waterfall for Properties or Funds
Debt structures can be tailored for individual assets or diversified funds depending on investor strategy and sponsor preferences.
1. Individual Properties or Assets
Sponsors or investors can lend against a specific property, secured by a mortgage on that asset. Terms such as interest rates, repayment schedules, and covenants are negotiated around the project’s risk profile.
2. Real Estate Funds
Real estate debt funds pool investor capital to originate or acquire loans across multiple projects, diversifying exposure while a professional manager oversees the portfolio.
Automate Every Debt Waterfall with Covercy
Covercy delivers customizable waterfall modeling so GPs can manage complex distributions with confidence.
Advanced Amortization Schedule Calculations
Handle amortization schedules for a diverse investor base with precise, tailored planning and execution.
Fully Customizable Payment Schedules
Adapt payment cadences and calculation types to meet each investor’s requirements without manual spreadsheets.
Individual Investor Customization
Modify schedules and calculations at the investor level to deliver a personalized experience and address unique constraints.
Banking Integration
Covercy CRE Banking enables instant ACH transfers from asset accounts to investor accounts once waterfall calculations are complete.
Debt Waterfall Benefits for Real Estate GPs
- Enhanced investor relations: Tailored schedules and calculations build trust, strengthen relationships, and open new fundraising opportunities.
- Efficient capital management: Streamlined, accurate processes reduce errors so GPs can focus on sourcing deals and managing assets.
- Risk mitigation: Precise modeling lowers the chance of financial discrepancies and avoids conflicts with investors.
- Seamless transaction execution: Integrated banking moves distributions instantly, improving operational efficiency and investor satisfaction.
Try Covercy free
Ready to take Covercy for a spin? Sign up for free or request a demo to see automated debt waterfalls in action.