From the perspective of underwriting, one of the key distinctions between construction financing and a real estate investment loan is the operating history. For construction funding, a history of operations is not required for loan approval. Instead, the project’s economics are based on the real estate proforma also known as the cash flow projection.
Of course, this prediction is not the only deciding factor in the financing process. Careful consideration is focused on the general contractor and development team as well. The credit approval process will also look at market conditions and trends. If the climate is ripe and those involved are creditworthy, the bank will issue the funds along with its terms.
Construction Financing Process
First, on behalf of your company, submit an initial loan request. The bank will then go through an internal process to decide whether or not to go ahead with the project. Following this step, the lending institution will issue a sheet outlining the terms of the proposed loan. After a review of the sheet, negotiations may be necessary between both parties.
Once the non-binding sheet is accepted and agreed upon, both parties can move forward in securing a binding contract. This will generally happen via commitment letter sent from the bank to the borrower. Subsequently, the loan moves into the closing phase of the process. Attorneys typically handle this complicated step.
Local community and regional banks frequently provide construction financing. Recently, different types of institutions have begun offering this kind of backing. Now, you may see national banks, life insurance companies or other specialized finance companies supplying construction funds. However, smaller local banks still dominate this sector of lending.
To make better decisions, lenders must know the market area and the market in general. Homegrown banks usually have the advantage because those involved know the locations first hand. They are more capable of making accurate predictions regarding future trends and growth. As such, they are more likely to be involved with regional construction and real estate.
Types of Construction Loans
Not all construction projects are the same; therefore various construction financing options exist to meet commercial real estate’s diverse needs. For companies that buy undeveloped land, there is the land development loan. If a real estate firm needs to build basic necessities such as sewage or power lines, this is the funding they require.
If these infrastructures exist but are outdated, firms can apply for an A&D or acquisition and development loan. Also available are mini-perm, takeout and interim construction loans. Whatever a real estate company needs, there are loans designed to aid them in their endeavors.