East House, a dormitory at the Middlesex School in Concord, was built with the use of Capital Financing 501, a funding program the school accessed in partnership with MassDevelopment and Wachovia Bank. The partnership has since been switched to Chase Bank.

It’s not often that a new commercial lending product comes on the market, so when MassDevelopment’s Capital Financing 501 was introduced a few years back, it stood out.

“For us, it’s a great fit,” said Dan Shimkus, senior vice president for commercial lending at TD Banknorth. “Not only was it exciting that we could introduce a new product [but] it’s ultra-attractive” to the bank’s target market – those seeking loans under $10 million.

In the three or four months the regional commercial bank has offered Capital Financing 501, it’s added four new nonprofit clients through the program, which is named for the 501 (c) (3)-designated tax-exempt entities that are eligible.

TD Banknorth is the newest bank to offer CF 501, a tax-exempt commercial paper (short-term, bank-guaranteed bond) program that quasi-state agency MassDevelopment introduced in 2001 to further its mission of “creative financing” to encourage community development in the Bay State.

But longer-term participants are equally enthusiastic.

“For us, it was a nice way to get into the Massachusetts market,” said Gail Holcomb, vice president and nonprofit underwriter for New York-based JP Morgan Chase Bank, which took on half a dozen borrowers last year after Wachovia Bank – the Charlotte, N.C.-based institution with which MassDevelopment piloted the program – dropped out.

John Cusack, vice president for not-for-profit lending at Allied Irish Bank, said the bank, whose U.S. headquarters is in New York, approached MassDevelopment about participating “because we felt it was a great opportunity for our clients to access low-cost funding.”

Allied Irish has several nonprofit clients, mostly independent and religious schools, in and near Boston. It started offering the program in 2003 and since has provided it to a total of eight clients. Cusack said it works because clients get “smaller loans, shorter terms and less up-front costs.”

According to Jami Loh, MassDevelopment’s first vice president in charge of nonprofit financing, CF 501 is a one-of-a-kind loan program for nonprofits that need a short-term loan large enough to consider bond funding (about $2 million) but less than $10 million. That’s not a huge number of institutions; Loh said just five of 65 bonds that MassDevelopment financed for nonprofits last year were through the program – mostly because most institutions’ needs are longer-term – but she added that it’s helped some important projects happen.

The only other options are for the institution to offer its own tax-exempt bond to the public or get a standard commercial loan, Loh and others said – neither of which is economically desirable for smaller loan sizes.

Capital Financing 501 allows nonprofits with that kind of need – such as private schools, YMCAs or arts institutions – to sign up through a bank that offers it. The banks serve as a guarantor for the businesses, whose loan requests are pooled in a single fund which the bank then offers as an investment to mutual funds that buy bonds. Nonprofits that participate also save thousands of dollars on closing costs, since the pools they join already have standardized loan transaction documents for all members.

Only banks rated by a service such as Moody’s or Standard & Poor’s can offer investments to mutual funds, which severely limits the number of banks that can offer CF 501 as only the largest banks tend to get such ratings.

To participate in MassDevelopment’s program, which features interest rates of about 5.2 percent, compared to today’s 7.6 percent standard commercial loan rate, the bank also has to be rated well, generally AA or better. Citizens Bank and Bank of America are the other participants.

‘Good Business’

With CF 501, it’s mutual fund investors, not banks, that actually loan the money to the nonprofits and earn interest when it’s paid back. The bank’s financial benefit comes from upfront and annual fees the business pays for its guarantee, explained Kurt Hanson, senior vice president and team leader for the health care and non profit division at Citizens.

“It’s good business,” he said. Citizens joined the CF 501 program in 2003 and has closed seven loans, with more in the pipeline. While clients’ fees depend on the size of their loan and the financial strength of their organization, Hanson noted, Citizens gives extra consideration to those who use the bank for other needs.

“For our clients, it becomes one-stop banking,” he said, which is attractive because it’s easy.

Citizens “aggressively” markets the program to nonprofits, and “it’s been a pretty incredible solution for them,” Hanson added.

Anna Maria College in Paxton and the Middlesex School, a private high school in Concord, were funded at just over $10 million each through Capital Financing 501. Each used the funds – Anna Maria’s were partially refinanced debt – for dormitory additions and renovations.

The most important thing for the college was speed.

“My impression is this saved money, [but] we wanted the money in place, because we wanted the dorm addition to be built for September,” said Robert Lombardi, an attorney with Mirick O’Connell, the Worcester law firm that represented the college in the transaction, through TD Banknorth.

The financing was approved in early June, 60 days after the application was filed – a fast turnaround for a tax-exempt bond, Lombardi said. And as a small borrower, “being able to [find financing] quickly and not have to explain yourself to an investor is important.”

The Middlesex School almost has paid off the $11 million loan it got five years ago, through Wachovia Bank via MassDevelopment, said its Assistant Head for Finance and Operations Jim Saltonstall. The lower costs were the biggest draw, he noted.

“The payback provisions were a lot more favorable,” he said, in that there are few if any prepayment penalties. That factor, combined with the lower interest rate, saved the school at least “several hundred thousand dollars,” he said.

“The only negatives would be as interest rates rise,” Saltonstall said. He, like his industry peers, was hard-pressed to find any others.