The State of Play
for Note-On-Note
Financing in 2026
April 2026
The State of Play for Note-on-Note Financing in 2026
April 2026
Part I: Background and Market Dynamics
Origins and General Background
Note-on-note financing — also referred to as “loan-on-loan” financing — is a form of back leverage in commercial real estate in which a lender extends credit to a mortgage lender using that mortgage lender’s existing loan as collateral, rather than taking a direct lien on the underlying real property. The product emerged more prominently after the great financial crisis, as non-bank lenders, including mortgage real estate investment trusts (REITs), bridge lenders, and private debt funds, became increasingly active originators of commercial real estate mortgage loans and sought to leverage their loan books without disposing of the underlying loan.
The dramatic rise of private credit as an asset class has further accelerated demand. As banks have pulled back from commercial real estate lending in response to regulatory pressure and rising credit concerns, private lenders have stepped in to fill the void, and note-on-note financings have become a standard component of the capital structures supporting those lenders.
Yet, precisely because the note-on-note lender holds a security interest in the mortgage loan — rather than a direct lien on the underlying real property — the product's structural remove from the underlying real estate creates meaningful complexity when enforcement of either the underlying loan or the note-on-note financing becomes necessary. As note-on-note financing has grown in prevalence, so too has the importance of understanding how the conversion and remedies process works in practice, and how to document it effectively at origination.
Part I: Background and Market Dynamics
Origins and General Background
Note-on-note financing — also referred to as “loan-on-loan” financing — is a form of back leverage in commercial real estate in which a lender extends credit to a mortgage lender using that mortgage lender’s existing loan as collateral, rather than taking a direct lien on the underlying real property. The product emerged more prominently after the great financial crisis, as non-bank lenders, including mortgage real estate investment trusts (REITs), bridge lenders and private debt funds, became increasingly active originators of commercial real estate mortgage loans and sought to leverage their loan books without disposing of the underlying loan.
The dramatic rise of private credit as an asset class has further accelerated demand. As banks have pulled back from commercial real estate lending in response to regulatory pressure and rising credit concerns, private lenders have stepped in to fill the void, and note-on-note financings have become a standard component of the capital structures supporting those lenders.
Yet, precisely because the note-on-note lender holds a security interest in the mortgage loan — rather than a direct lien on the underlying real property — the product's structural remove from the underlying real estate creates meaningful complexity when enforcement of either the underlying loan or the note-on-note financing becomes necessary. As note-on-note financing has grown in prevalence, so too has the importance of understanding how the conversion and remedies process works in practice, and how to document it effectively at origination.
Market Size and Growth
Note-on-note financings sit within the broader back leverage and private credit market for commercial real estate, which has grown substantially over the past several years:
Market Volume and Key Drivers
While market-wide volume statistics for outstanding back-leverage facilities are not systematically reported in the U.S., the broader market data points to a materially expanding opportunity set for leveraged debt fund strategies. Two converging forces drive this expansion: (i) the continued scaling of private credit, with Preqin forecasting global private debt AUM to grow from $1.5tn in 2023 to $2.6tn by 2029, with private credit stepping into transactions that were traditionally funded by traditional bank lenders; and (ii) a substantial maturity wall, with the Mortgage Bankers Association (MBA) estimating approximately that $957bn in U.S. CRE mortgage maturities were due in 2025, and a further $875bn are scheduled to mature in 2026 (representing 17% of the $5.0tn in outstanding commercial mortgages held by lenders and investors), which has required the industry to find new capital sources to manage refinancing demand.
Global Private Debt AUM ($bn) from 2018 to 2029
Distress Cycle and Recent Deal Activity
The current commercial real estate distress cycle has been a particularly significant driver of note-on-note activity. Elevated interest rates, compressed debt service coverage ratios, and rising cap rates have placed substantial pressure on property valuations and borrower liquidity. In this environment, note-on-note financing has emerged not only as an origination tool but also as a workout and restructuring tool, enabling holders of distressed mortgage loans to access liquidity while retaining the underlying loan asset and managing its resolution over time.
Investor Base and Forward Outlook
The investor base for note-on-note financing has broadened meaningfully beyond mortgage REITs and dedicated debt funds: private equity sponsors and family offices have increasingly deployed back leverage capital through note-on-note structures as a means of accessing real estate credit returns with enhanced yield and structural protections.
Looking ahead, continued bank retrenchment, a large pipeline of maturing loans requiring restructuring or extension, and growing institutional familiarity with the product all point to sustained demand for note-on-note financing as a core component of the institutional real estate capital markets toolkit.
Part II: Basic Features of a Note-on-Note Financing
At its core, a note-on-note financing has the following key structural features:
Security Package — The Collateral is a Loan, Not Real Estate
Unlike conventional mortgage lending, the note-on-note lender’s security interest attaches not to the underlying real property but to the mortgage loan documents — a “two steps removed” structure that defines both the risk profile and the enforcement toolkit.
The security package typically includes: (i) a first-priority security interest in the pledged mortgage loan documents, including related instruments and reserve accounts; (ii) control over reserve and operating accounts associated with the mortgage loan; (iii) an assignment of servicing rights with the right to terminate the mortgage lender’s servicing upon default; and (iv) in some cases, pledges of equity interests in the mortgage lender entity, providing an additional enforcement tool allowing the note-on-note lender to step into the shoes of the mortgage lender.
Taken together, this security package provides the note-on-note lender with meaningful enforcement tools, including a contractual path to direct real estate ownership through the conversion mechanism. However, the “two steps removed” structure means the note-on-note lender bears dual-layer credit exposure — to both the mortgage lender as direct borrower and the underlying property and its owner — and enforcement can be more complex than a direct mortgage foreclosure.
Leverage Ratio
Note-on-note facilities typically provide the mortgage lender with advance rates of 50% to 80% of the outstanding face amount of the mortgage loan, depending on collateral quality, the credit of the mortgage lender, and market conditions. This leverage enables the mortgage lender to enhance equity returns meaningfully without requiring a disposal of the underlying loan assets. Conversely, higher advance rates compress the note-on-note lender’s equity cushion, amplifying exposure to collateral value deterioration in a declining market.
Foreclosure Mechanism
A critical feature of note-on-note financing is the note-on-note lender's ability to foreclose on its collateral — the pledged mortgage loan — upon an event of default by the mortgage lender under the note-on-note facility. Because the note-on-note lender's security interest attaches to the mortgage loan documents rather than to the underlying real property, foreclosure is typically effected through a Uniform Commercial Code (UCC) Article 9 disposition of the pledged collateral, which may take the form of a public or private sale in lieu of foreclosure.
Upon completion of such foreclosure (or a conveyance in lieu of foreclosure), the note-on-note lender (or its designee) succeeds to the position of the mortgage lender and holds a direct mortgage loan secured by the underlying real property. The foreclosure remedy is the note-on-note lender’s principal enforcement tool, providing a path to a direct mortgage position and, ultimately, to the underlying real estate collateral.
However, enforcement complexity — including compliance with UCC Article 9 procedural requirements, the commercially reasonable disposition standard, jurisdiction-specific considerations regarding the perfection and enforceability of the acquired mortgage position, and potential mortgage recording and transfer taxes triggered by the transfer — makes careful pre-negotiation and documentation of the foreclosure mechanics at origination essential.
Conversion Mechanism
The note-on-note documentation must also address the scenario in which no event of default has occurred at the note-on-note level, but the underlying mortgage loan is in default. In such circumstances, the mortgage lender (i.e., the note-on-note borrower) may elect to foreclose on the underlying mortgage (or accept a deed-in-lieu of foreclosure), thereby acquiring direct ownership of the property and extinguishing the mortgage loan that constitutes the note-on-note lender's collateral.
Because the note-on-note lender's security interest is in the mortgage loan rather than the real property, the note-on-note facility documents must incorporate a conversion mechanism that, upon the note-on-note borrower’s acquisition of the underlying property through foreclosure or deed-in-lieu, automatically or upon election converts the note-on-note loan into a direct mortgage loan secured by a first-priority lien on the acquired real property. The next section explores that mechanic in greater detail.
Part II: Basic Features of a Note-on-Note Financing
At its core, a note-on-note financing has the following key structural features:
Security Package — The Collateral is a Loan, Not Real Estate
Unlike conventional mortgage lending, the note-on-note lender’s security interest attaches not to the underlying real property but to the mortgage loan documents — a “two steps removed” structure that defines both the risk profile and the enforcement toolkit.
The security package typically includes: (i) a first-priority security interest in the pledged mortgage loan documents, including related instruments and reserve accounts; (ii) control over reserve and operating accounts associated with the mortgage loan; (iii) an assignment of servicing rights with the right to terminate the mortgage lender’s servicing upon default; and (iv) in some cases, pledges of equity interests in the mortgage lender entity, providing an additional enforcement tool allowing the note-on-note lender to step into the shoes of the mortgage lender.
Taken together, this security package provides the note-on-note lender with meaningful enforcement tools, including a contractual path to direct real estate ownership through the conversion mechanism. However, the “two steps removed” structure means the note-on-note lender bears dual-layer credit exposure — to both the mortgage lender as direct borrower and the underlying property and its owner — and enforcement can be more complex than a direct mortgage foreclosure.
Leverage Ratio
Note-on-note facilities typically provide the mortgage lender with advance rates of 50% to 80% of the outstanding face amount of the mortgage loan, depending on collateral quality, the credit of the mortgage lender, and market conditions. This leverage enables the mortgage lender to enhance equity returns meaningfully without requiring a disposal of the underlying loan assets. Conversely, higher advance rates compress the note-on-note lender’s equity cushion, amplifying exposure to collateral value deterioration in a declining market.
Foreclosure Mechanism
A critical feature of note-on-note financing is the note-on-note lender's ability to foreclose on its collateral — the pledged mortgage loan — upon an event of default by the mortgage lender under the note-on-note facility. Because the note-on-note lender's security interest attaches to the mortgage loan documents rather than to the underlying real property, foreclosure is typically effected through a Uniform Commercial Code (UCC) Article 9 disposition of the pledged collateral, which may take the form of a public or private sale in lieu of foreclosure.
Upon completion of such foreclosure (or a conveyance in lieu of foreclosure), the note-on-note lender (or its designee) succeeds to the position of the mortgage lender and holds a direct mortgage loan secured by the underlying real property. The foreclosure remedy is the note-on-note lender’s principal enforcement tool, providing a path to a direct mortgage position and, ultimately, to the underlying real estate collateral.
However, enforcement complexity — including compliance with UCC Article 9 procedural requirements, the commercially reasonable disposition standard, jurisdiction-specific considerations regarding the perfection and enforceability of the acquired mortgage position, and potential mortgage recording and transfer taxes triggered by the transfer — makes careful pre-negotiation and documentation of the foreclosure mechanics at origination essential.
Conversion Mechanism
The note-on-note documentation must also address the scenario in which no event of default has occurred at the note-on-note level, but the underlying mortgage loan is in default. In such circumstances, the mortgage lender (i.e., the note-on-note borrower) may elect to foreclose on the underlying mortgage (or accept a deed-in-lieu of foreclosure), thereby acquiring direct ownership of the property and extinguishing the mortgage loan that constitutes the note-on-note lender's collateral.
Because the note-on-note lender's security interest is in the mortgage loan rather than the real property, the note-on-note facility documents must incorporate a conversion mechanism that, upon the note-on-note borrower’s acquisition of the underlying property through foreclosure or deed-in-lieu, automatically or upon election converts the note-on-note loan into a direct mortgage loan secured by a first-priority lien on the acquired real property. The next section explores that mechanic in greater detail.
Part III: Converting a Note-on-Note Financing — Structuring for Enforcement in Practice
The conversion of a note-on-note financing into a direct mortgage loan is among the most consequential and most technically demanding events in the lifecycle of a back leverage facility. The conversion process demands the simultaneous satisfaction of multiple conditions precedent under the note-on-note documentation, each of which must be carefully coordinated with the completion of the underlying foreclosure or deed-in-lieu.
To address these demands, the note-on-note documentation must incorporate a comprehensive set of conversion mechanics that govern each step of the process. Those mechanics should address, among other things: (i) the terms of replacement guaranties and other replacement mortgage loan documents; (ii) the timing and sequencing of the conversion relative to the completion of the underlying foreclosure, to ensure that the note-on-note lender's direct mortgage position is perfected contemporaneously with the mortgage lender's acquisition of title; and (iii) the obligation of the note-on-note borrower to pay for all costs and expenses of the conversion, including mortgage recording taxes, title insurance premiums, and transfer taxes, triggered by the conversion.
The note-on-note loan documents must carefully consider the foregoing conversion mechanics and provide that no foreclosure, deed-in-lieu, or other acquisition of the underlying real property by the note-on-note borrower may be completed unless and until all such mechanics have been satisfied in full, thereby ensuring that the note-on-note lender's security interest is at all times maintained and that its direct mortgage position is perfected prior to or contemporaneously with any such acquisition.
Part III: Converting a Note-on-Note Financing — Structuring for Enforcement in Practice
The conversion of a note-on-note financing into a direct mortgage loan is among the most consequential and most technically demanding events in the lifecycle of a back leverage facility. The conversion process demands the simultaneous satisfaction of multiple conditions precedent under the note-on-note documentation, each of which must be carefully coordinated with the completion of the underlying foreclosure or deed-in-lieu.
To address these demands, the note-on-note documentation must incorporate a comprehensive set of conversion mechanics that govern each step of the process. Those mechanics should address, among other things: (i) the terms of replacement guaranties and other replacement mortgage loan documents; (ii) the timing and sequencing of the conversion relative to the completion of the underlying foreclosure, to ensure that the note-on-note lender's direct mortgage position is perfected contemporaneously with the mortgage lender's acquisition of title; and (iii) the obligation of the note-on-note borrower to pay for all costs and expenses of the conversion, including mortgage recording taxes, title insurance premiums, and transfer taxes, triggered by the conversion.
The note-on-note loan documents must carefully consider the foregoing conversion mechanics and provide that no foreclosure, deed-in-lieu, or other acquisition of the underlying real property by the note-on-note borrower may be completed unless and until all such mechanics have been satisfied in full, thereby ensuring that the note-on-note lender's security interest is at all times maintained and that its direct mortgage position is perfected prior to or contemporaneously with any such acquisition.
Lessons for Lenders
Whether negotiating documentation at origination or navigating an active conversion, the following considerations are critical to preserving the Note-on-note lender’s position and ensuring that enforcement remedies are available, sequenced, and executable when needed:
Document the Conversion Path at Origination
The conversion mechanism and its conditions precedent must be carefully negotiated and documented at origination, with the full suite of required deliverables specified and with the terms of these deliverables specified as much as possible – such that the note-on-note lender can perfect and insure its post-conversion lien on the real property. The negotiation of replacement mortgage loan documents also warrants particular attention: the existing note-on-note documents cannot simply be adapted into mortgage loan documents, and the note-on-note borrower — who will become the direct mortgage borrower upon conversion — is unlikely to accept a wholesale adoption of the underlying mortgage loan documents, which may have been negotiated on terms that are disadvantageous to it in that capacity.
Both parties should therefore seek to resolve as many of the replacement mortgage loan documentation parameters as possible at origination by negotiating and agreeing to the form and key economic and non-economic terms of the replacement mortgage loan documents, as part of the conversion conditions. Last-minute negotiation of conversion mechanics in a distressed context is time-consuming, expensive, and can impair the Note-on-note lender’s ability to act quickly.
Diligence
Appropriate diligence on the underlying real property should be conducted at origination and updated throughout the life of the facility, not deferred until distress materializes. In practice, the note-on-note lender can achieve meaningful efficiency by leveraging the note-on-note borrower's own diligence work product, with verification.
Maintain Tight Control Over Enforcement Sequencing
The note-on-note lender must ensure that it controls the sequencing of any underlying enforcement action. A foreclosure or deed-in-lieu completed without first perfecting the direct mortgage position can leave the note-on-note lender holding an unperfected interest.
Preserve Consent Rights over Mortgage Loan Conduct Through Conversion
The note-on-note lender should insist on a comprehensive consent regime effective through any conversion period and covering both material modifications to the underlying loan documents and key strategic decisions in any borrower bankruptcy or enforcement proceeding — including adequate protection, credit bid authority, and stay relief. Without such controls, the note-on-note borrower may take actions as mortgage lender that materially impair collateral value before the note-on-note lender’s formal and direct enforcement rights are triggered.
Cash Control and Servicing Rights as Enforcement Leverage
The ability to redirect cash flows and terminate servicing rights at the underlying mortgage loan level — independently of any conversion or UCC sale — provides the note-on-note lender with meaningful leverage in workout negotiations and an important source of liquidity throughout an extended enforcement process.
Conclusion
As note-on-note financing continues to grow as a core component of the institutional commercial real estate capital markets toolkit, the importance of carefully crafted structure and documentation will only increase. For note-on-note lenders and mortgage lenders alike, the difference between a well-structured facility and an inadequately documented one can be the difference between an efficient enforcement outcome and a protracted, costly dispute. Thoughtful negotiation of conversion mechanics, enforcement sequencing, and collateral controls at origination — informed by the lessons of prior distress cycles — will be essential to ensuring that all parties to a note-on-note financing are positioned to protect their respective interests as market conditions evolve.
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