Interest reserves are funds set aside to cover interest payments during the loan term.
They are common when a property is not producing income yet, or when the lender wants payment certainty during rehab or construction.
Reserves reduce default risk and can stabilize cash flow during project execution.
They also change your cash needs at closing, which many investors underestimate.
If you plan reserves upfront, you avoid “approved but short on cash” problems right before funding.
Use this guide to understand reserves and model your deal correctly.
At a glance
- Interest reserves are set aside to cover interest during the term
- Common in construction and heavy rehab where income is not yet stable
- Reserves reduce risk and help projects stay current on payments
- Reserves can increase cash needed at closing
- The hold period drives reserve planning
- Conservative timeline planning reduces reserve stress
What an interest reserve is (plain English)
An interest reserve is money allocated to pay interest as the loan runs. Instead of the borrower making monthly out-of-pocket payments (or in addition to them), the reserve ensures interest is covered for a defined period.
When interest reserves are commonly used
- New construction where the asset is not yet producing income
- Heavy value-add rehab where occupancy is not stable
- Projects where lender policy requires additional payment protection
- Deals where execution risk or timeline risk is higher
How reserves affect your deal economics
Reserves can affect:
- cash-to-close (you may need more cash upfront)
- the timeline you can comfortably hold
- the pressure you feel if the project slips
- whether you need extensions
If you ignore reserves in your model, your “profit” number becomes fiction.
How investors plan reserves like professionals
- Underwrite two timelines: base case and stress case
- Model interest cost for both
- Keep a cash buffer even if reserves exist
- Plan a backup exit if the timeline slips (sell vs rent/refi)
Next step
Hard money program: https://ambitionlending.co/hard-money-loans/
Construction program: https://ambitionlending.co/new-construction-loans/
Submit a deal: https://ambitionlending.co/contact/
Frequently Asked Questions
What is an interest reserve?
An interest reserve is money set aside to cover interest payments during the loan term, commonly used in rehab or construction scenarios.
Why do lenders require interest reserves?
Reserves reduce payment risk during periods when the property is not producing stable income, which protects the project and the loan.
Do interest reserves increase cash-to-close?
Do interest reserves increase cash-to-close?
Are interest reserves the same as prepaid interest?
They are related concepts. Both address interest payments, but structure and timing can differ by loan program.
What happens if my project takes longer than expected?
A longer timeline can increase total interest cost and may require additional reserves or an extension. Conservative timeline planning helps.
How do I avoid reserve-related surprises?
Ask for a clear breakdown of cash-to-close and reserve requirements early, and underwrite a stress-case timeline.
