Most construction loans come from local or regional banks. These groups have greater knowledge of market conditions and often have a better understanding of each project potential. There are some specialty lenders, national banks and life insurance companies that offer construction loans, but in these cases borrowers may find it difficult to qualify. Construction loans are considered risky by many lenders and larger groups may be unwilling to underwrite these loans for the majority of borrowers.
Construction loans are usually issued in two parts, both to finance the cost of development and provide the borrower with a long term mortgage. The first short term part of these a construction loan pays for a projects construction and lease out phase. The longer term loan pays off the short term loan and is issued once the project reaches a specific point, either in terms of occupancy or in terms of income generated. Some construction lenders combine these two types of financing, in a form called mini-perm loans. The long term portion of these loans is given for a shorter period. This helps the lender evaluate a projects performance before the borrower can refinance to a long term mortgage.
The underwriting process for a construction loan is unique. New developments do not have a financial history for a lender to evaluate. The lenders understanding of the projects potential comes entirely from the borrowers assumptions. This means before any construction loan is approved lenders will closely scrutinize the experience of the developer, the contractors involved and the prevailing market conditions. Borrowers will need to provide detailed tax returns, financial statements, details about their outstanding debt obligations and above all a detailed pro forma. This document should detail specifically how the construction loan will be used, come with detailed cost estimates and explain any assumptions about a projects potential income. These documents will take some time for the lender to review, but if a construction is approved the lender will issue a binding commitment letter which outlines the terms of the loan in specific detail.
On both sides of the agreement, both borrower and lender will likely need to rely on legal experts in order to sort through the procedures and to gather the documentation needed for a construction loan to finally close. In many cases commitment letters also come with a “closing checklist,” which details specific steps the borrower must take before any funds can be dispersed.
Construction loans are distributed in “waves of funding.” The full loan amount is not received up front. The first wave of initial funding is meant to cover the initial costs needed to get the project off the ground. Further funds are distributed on a monthly basis to cover the regular costs of construction. However should a borrower encounter any unexpected expenses during this time they must submit a “draw request” to their lender. These costs must be approved and verified by the lender before any additional funds can be dispersed.
Navigating the process of securing a construction loan can be complex. Borrowers should seek out local banks, expect a lengthy approval process and expect further complications even after the loan closes.
Level 4 Funding LLC Private Hard Money Lender
Arizona Tel: (623) 582-4444
Texas Tel: (512) 516-1177
Dennis@level4funding.com NMLS 1057378 | AZMB 0923961 | MLO 1057378
22601 N 19th Ave Suite 112 | Phoenix | AZ | 85027
111 Congress Ave |Austin | Texas | 78701
About the Author: Dennis has been working in the real estate industry in some capacity for the last 40 years. He purchased his first property when he was just 18 years old. He quickly learned about the amazing investment opportunities provided by trust deed investing and hard money loans. His desire to help others make money in real estate investing led him to specialize in alternative funding for real estate investors who may have trouble getting a traditional bank loan. Dennis is passionate about alternative funding sources and sharing his knowledge with others to help make their dreams come true. Dennis has been married to his wonderful wife for 42 years. They have 2 beautiful daughters 5 amazing grandchildren. Dennis has been an Arizona resident for the past 40 years.