Suppose a developer wants to build a $10 million office building. Normally the bank making the construction loan will require that he contribute, one way or another, 20% of the total cost of the project ... or in this case, $2 million.

Two million in equity is a lot of dough. Not too many developers have an extra $2 million laying around in their spare change drawer. Where does the typical developer get this kind of equity money?

One way for the developer to contribute $2 million towards the project is to have $2 million in equity in the land. He may have purchased the land seven years ago for $800,000 and then the nearby city expanded out to his property. Now the land is worth $2 million, and he has no loans against the land. Hence he has $2 million in bona fide equity in the land.

More commonly the developer bought the land for $800,000 just three years ago, but he managed to get the property rezoned from agricultural land to residential land. Even though three years is a very short period of time for a property to appreciate from $800,000 to $2 million - most lenders will accept such a rapid appreciation if the developer got the land entitled. Entitled means that the land has the right to be developed into homes or commercial buildings.

But the new construction loan underwriter must not fall for the old line, "I was able to buy the land for $800,000 but I got a really-really good deal. The property is actually worth $2 million." Yeah, right. If the property was really worth $2 million, the seller would have sold it to someone else for $2 million.

One way the developer could raise $2 million is for the existing landowner to subordinate. Suppose the land owner is asking $2 million for his land. The developer could ask the land owner to carry back a $2 million second mortgage that would be subordinate to the construction loan from the bank.

Another way for the developer to raise the $2 million in required equity would be to obtain a mezzanine loan of, say, $1 million. Then the developer would only have to raise the remaining $1 million. Unfortunately most mezzanine lenders will not make mezz loans of less than $3 million. Mezzanine financing would work on a $30 million project but probably not a $10 million project.

A very common way for developers raise their equity dollars is to syndicate a small group of their friends into an LLC. Each private investor might put up $100,000 and there might be 20 investors in the LLC. But the developer has to be very careful that he does not violate securities laws. He cannot publicly advertise the formation of this investment LLC. This means he cannot buy ads in the newspaper or send out mailing circulars to wealthy strangers. The developer must also be careful that he does not assemble more than 35 non-accredited investors into the LLC. An accredited investor is someone who either has enjoyed a huge salary for at least two straight years or who has a net worth in excess of $1 million.

The final way for a developer to raise equity dollars is to go to a mortgage banking firm that specializes in placing equity investments. Many of the very largest commercial mortgage banking firms have contacts with equity funds.

An equity fund, in this context, is a fund that specializes in providing equity dollars to developers so the developers can build large commercial projects. The kinds of investors that invest in equity funds are college endowment funds, pension plans, and the holding companies of banks and life insurance companies. These go-go investors expect returns of 20% to 35%, so equity dollars are very, very expensive.

Unfortunately for the smaller developer, equity funds seldom invest in real estate construction deals smaller than $20 million or so. The typical developer trying to build a $4 million project and who needs $800,000 in equity dollars is not experienced enough to qualify with an equity fund. Only the really large, sophisticated developers qualify for equity dollars. It's kinda like the old saying, "The bank only wants to lend me the money when I don't need it." Equity funds only want to invest with developers so wealthy that they don't really need the equity dollars.

George Blackburne is an attorney and the owner of C-Loans.com, the largest of the commercial mortgage portals. You can apply to 750 commercial lenders in just four minutes. Please click here to visit C-Loans.

Note: C-Loans does not provide access to equity dollars, but a user can apply to many different commercial construction lenders using C-Loans.com.