Interest Reserve
A portion of the loan set aside by the lender to cover the borrower's monthly interest payments during a rehab or bridge period, so the investor isn't paying out of pocket while the property is non-income-producing.
An interest reserve is money the lender holds back from the loan to pay the borrower's monthly interest during the project — typically on a fix-and-flip or bridge loan where the property earns no income while it's being renovated or repositioned.
Instead of writing the lender an interest check every month out of pocket, the investor's payments are drawn automatically from the reserve. This preserves the borrower's working capital for the renovation itself.
Why it exists
During a rehab, a property is usually vacant and producing no rent — but the loan still accrues interest. For a flipper juggling contractor payments and materials, having to also cover several months of interest can strain cash flow. The interest reserve solves that by pre-funding those payments from the loan.
How it works
- The lender estimates the interest due over the expected project term.
- That amount is set aside from the loan proceeds at closing (it's part of your loan, not extra free money).
- Each month, the lender draws the payment from the reserve rather than billing you.
- If the reserve runs out before payoff (e.g., the project runs long), you resume paying out of pocket.
A simple example
A $250,000 fix-and-flip loan at 11% interest, with a 6-month reserve:
Monthly interest ≈ 250,000 × 11% ÷ 12 ≈ $2,292
6-month reserve ≈ $2,292 × 6 ≈ $13,750 held back
That ~$13,750 comes out of the loan amount and funds the first six months of interest.
What to watch for
- It's borrowed money. The reserve is part of your loan balance and you pay interest on it — it improves cash flow, it doesn't reduce cost.
- It can shrink your usable proceeds. Reserve plus points reduce net funding at closing.
- Size it to a realistic timeline. If the reserve only covers 6 months and your flip takes 9, you'll be paying out of pocket for the overrun. Many lenders only charge interest on drawn funds, which can reduce how much reserve you need; confirm whether your loan charges interest on the full balance or only on amounts actually advanced.
Frequently asked questions
Is an interest reserve free money?
No. The reserve is part of your loan balance — you borrow it and pay interest on it. It's a cash-flow tool that pre-funds your monthly payments during the rehab, not a discount or a reduction in the cost of the loan.
What happens if the interest reserve runs out?
If your project runs longer than the reserve covers, the automatic payments stop and you resume paying interest out of pocket until you pay off or refinance. That's why it's important to size the reserve to a realistic, slightly conservative timeline.
Do all fix-and-flip loans include an interest reserve?
Not all. Some lenders build one in automatically, some offer it as an option, and some require monthly out-of-pocket payments instead. It's a specific feature to ask about when comparing fix-and-flip loan terms.