NAV Lending Regulatory Considerations

As an alternative to traditional borrowing from a bank or broker, advisers to private equity funds may borrow against fund assets to finance (and leverage) their investment strategies and meet obligations to investors and/or other third parties. This is known as NAV lending.

This practice has become more common in recent years drawing attention both from the Institutional Limited Partners Association (ILPA) and U.S. Securities and Exchange Commission (SEC) staff. The 2025 Examination Priorities, recently released by the SEC Division of Examinations, specifically reference private funds’ use of debt and lines of credit as an area of regulatory risk for registered investment advisers.

To assist you with the decision to utilize NAV lending or not, we will explain the benefits of this type of funding and the considerations to take into account before choosing to do so.

Why use NAV lending?

Private equity and private credit funds may use NAV lending (also referred to as “NAV Financing” or “NAV Loans”) to fund follow-on investments, expenses, or other needs when the fund’s liquid capital has been mostly or fully deployed. In a market environment that is requiring these funds to hold assets longer than originally anticipated, NAV lending provides a useful option for meeting the funds’ extended cash needs. The term NAV lending originates from the fact that the fund's net asset value (NAV) serves as collateral for the loan.

Traditional lending is often unsuitable for private equity and private credit funds because their assets, the would-be collateral for these loans, are typically illiquid and difficult to value, complicating and heightening credit risks to lenders. The market dislocation, volatility, and high interest rates of the past few years have exacerbated this problem, limiting the ability of these funds to exit investments and/or raise capital.

In this environment, NAV lending has continued to provide liquidity to these funds. However, NAV lending is more costly and subjects funds to increased diligence and added obligations.

What are the risks?

Funds, and ultimately their investors, assume various risks and costs when using NAV financing. These can include:

• Relatively higher financing costs due, in part, to the characteristics of collateral and longer repayment periods.
• Higher operational and legal costs relating to lender diligence and ongoing obligations and financial covenants.
• Risk of additional costs and loss of pledged investments in case of default of payment or covenant obligations.
• Added pressures on the accuracy of valuations attributed to assets pledged as collateral and increased conflicts regarding the valuation of the difficult-to-value assets.

Ironically, the decision to borrow also intensifies a fund’s liquidity risk. If the market turns against the fund, it may need to sell assets that are serving as collateral for the NAV loan, making already illiquid instruments even harder to sell.

The manager also has a financing conflict when utilizing NAV lending because increasing the fund’s assets via borrowing increases the manager’s fee. Fund investors pay the high fees that come with NAV lending and bear the risks of default. The result is substantial conflicts of interest that need to be mitigated and disclosed to meet the fiduciary responsibilities established by the Advisers Act.

How are risks mitigated?

Managers considering NAV lending address the following issues:

1. Traditional disclosures concerning a fund’s use of leverage were designed for short-term/low-risk financing, like sub-lines of credit, but normally do not explain the added risks and costs of NAV lending. When preparing private fund documents, provide thorough disclosures explaining its purpose, the risks and potential conflicts of interest that come with utilizing NAV lending, and to the extent possible, the lending terms and conditions, including the heightened costs associated with NAV lending.
2. One of the most significant conflicts presented by NAV lending is the temptation to overvalue fund assets to maximize lending proceeds. Ensure that the manager has robust valuation policies, procedures, and practices to ensure the integrity of fund asset valuations. Disclosures to fund investors should describe these conflicts and the steps the manager is taking to control them.
3. Ensure and document that the benefits provided by NAV lending outweigh the costs and risks to the fund.
4. If fund documents do not adequately describe contemplated NAV lending (often the case with funds that were established before the rise of NAV lending), seek documented consent from fund investors before authorizing a fund to participate in NAV lending. Consult counsel on exactly what type of consent is required (for example, consent from a limited partners advisory committee (LPAC) may suffice) and what disclosures should be made to ensure the consent is informed.
5. Establish policies and procedures to ensure the fund continues to satisfy the terms of any NAV lending agreements, including any financial covenants and lender reporting requirements, to reduce risk of default. In particular, the manager should confirm that its valuation policies and procedures meet the terms of the agreement. The manager should also ensure that its policies and procedures address any leverage limits set in the fund documents and the NAV lending agreements.
6. Funds that use NAV lending should consider the benefits of communicating regularly with fund investors about the status of the fund’s NAV loans and their impact on the fund’s leverage limits and performance. While not necessarily a legal or regulatory requirement, regular communication about a fund’s leverage and its impact on performance can create a strong body of evidence justifying the manager’s decision to use NAV lending and demonstrating the manager’s close attention to risk management.
7. The SEC announced in its 2025 Examination Priorities that its examiners will be focusing on private fund managers’ policies, procedures, and practices for managing leverage, particularly if leverage is higher than average for the type of fund. They will be testing managers’ valuation policies, procedures, and practices against FASB standards and the manager’s disclosure, and will inquire how private fund managers are accounting for market volatility and interest rate fluctuations. These issues are particularly sensitive for private equity and private credit funds, so managers should anticipate these questions and thoroughly document their practices that address the SEC’s concerns.

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