Key considerations for builders when structuring a construction loan.
Development has continued at a rapid clip here in the Pacific Northwest – evidenced by Seattle leading the nation in cranes in the sky for the third straight year with 45, and Portland not far behind with 32.
While your project may not require such heavy-duty machinery, whether large or small, a well-structured construction loan will have a significant impact on the overall success of your project.
Construction loans, either from a bank or a private money lender, may include a wide variety of terms and structures. Below are some things to consider when shopping for a construction loan that will allow you to make the best decisions for your project specific needs.
In real estate development, timing is everything, and construction loans are no different. Having building permits in hand or ready to pick up upon the closing of your loan will allow you to start construction immediately and reduce your interest carrying costs.
When using leverage to acquire unentitled land for development, consider finding a lender who will role an acquisition loan directly into a construction loan upon issuance of building permits, to reduce your borrowing costs and streamline the process.
Developers and builders have a tendency to seek shorter construction loan terms in an effort to obtain a lender’s lowest rates and fees. It can be easy to overestimate one’s ability to complete a project, but from the perspective of a lender involved in a variety of projects across the Pacific Northwest – construction nearly always takes longer than expected, and negotiating some breathing room with regards to loan term can help you avoid paying costly extension fees down the road.
Provided sufficient collateral, construction lenders often will build in an interest reserve to cover a borrower’s loan payments during the course of construction. This can be an important loan term to negotiate, as cash flow during the construction process is often tight.
Construction loan funds are released by the lender to a borrower on what is referred to as a draw schedule. A common draw schedule is a release of funds for completed work every 30 days, either reimbursing the project owner or made directly to a general contractor.
It is important to understand what paperwork needs to be submitted to your lender with each draw request. Common requirements include invoices from contractors for completed work, executed lien releases, and progress photos.
Dutch or Non-Dutch?
A Dutch construction loan accrues interest on the entire loan balance regardless of what portion of the construction funds have been advanced by the lender, while a non-Dutch construction loan only accrues interest on the portion of the funds advanced to date. While banks are generally able to offer non-Dutch construction loans, most private money lenders are not. Understanding the difference between the two is important when calculating the carrying cost of a construction loan.
Budget Accuracy and Contingency
As construction costs have continued to increase rapidly, an accurate budget with a reasonable contingency are foundational to a project’s success. Underestimating a construction budget in an effort to make a pro-forma more appealing has the potential to trigger a balancing clause (standard in most construction loan agreements), which may cause a borrower to have to bring significant cash to the table midway through a project or risk a foreclosure action.
At Juniper Capital, we build each of our Seattle private construction loans from the ground up to structure a deal that gets your project both financed and completed quickly and efficiently. Give us a call today to discuss your construction financing needs. We specialize in Seattle real estate loans, hard money loans in Washington, and more.