The lending environment has changed dramatically in the last five years in various ways. Most conspicuously, hard money lenders have reversed from going full speed ahead too closely and deliberately analyzing every scintilla of their prospective borrower’s credentials. Private-money lenders are particularly cautious with hard money construction loans, as many of these projects further downward pressure on home values.
Consumer regulations, too, have tightened regulations on private money lenders causing hard money lenders to almost desist from pandering speculative construction and construction-to-permanent loans to builders. Banks have long ceased from offering construction loans. They are too speculative and the risk is too huge. Private lenders still are willing to fund some projects — as long as they fit their lending requirements.
In an article written for Scotsman Guide in 2011, David C. Scott, president and house counsel of Silverado Funding and an expert real estate loan broker in his own rights suggests five enormously helpful tips that would help brokers find investors for construction loans. You may not be a broker but you can certainly use these same five factors for yourself when seeking new construction loans from hard-money lenders today. You’re more likely than not to end up persuading them to listen to you if you use Scott’s tips.
Five tips for hard money construction loans
- Location – Be sure that your lender likes the geographical location of your property. Typically, the lender will only underwrite the new construction if he affirms your choice.
- Down Payment requirements – You’ll want to know how much of the borrower’s money must be in the project. On a spec loan to a builder, that may run the gamut from no money down to 10 percent down with either a free-and-clear or subordinated lot. On a construction-to-permanent loan, you can work with the private-money lender for the construction and then with one of your correspondent lenders to do a rate-and-term refinance out of the hard-money loan. The private lender will require a 20 percent nonrefundable deposit, which can be rolled into the takeout loan.
- Lot lien – Ask your lender whether he wants to include some or all of the lost cost in the loan. Ideally, a lender wants the loan to be exclusive of the loan or at least subordinated to the first-position private-money deed of trust. Some lenders may fund as much as 70 percent loan-to-value of the appraised value and allow some of the lot cost to be funded into the deal. Find out what yours feels most comfortable with
- Familiarize yourself with the builder’s or subcontractors’ draw process. Individual private lenders can be more liberal and pay a builder directly after a site inspection. This is not the norm, however, and a larger lender will require that a title company be involved and pay the builder and subcontractors directly after lien waivers are received. Contact your local title company to see if it is doing any new construction loans, and if so, familiarize yourself with the lien laws in your state.
- Rates and fees – Be able to speak in general terms about rates and fees. The typical builder who used bank financing in the past may balk at a six-month loan with a 12 percent interest rate and 4 points, for example, but you must show them the profits they can make on a deal that is consummated, rather than waiting on the sidelines with no funding. For a pre sold loan, if the end loan costs are rolled into the deal and 5 percent to 10 percent of the project’s equity is allocated for points and fees for the new construction deal, then the clients may be happy they can get a project under way and completed — and often in a shorter time frame than traditional financing.
In short, to persuade the lender to grant your hard money construction loan, you’ll have to demonstrate that you have brought value to your side of the transaction. Present a full package with 1003 and supporting financials, so the underwriting of a potentially profitable deal can proceed efficiently and effectively. Work with the lender to spell out terms that outline a front-end closing, monthly payments and final repayment. Once you learn how to work with a lender on hard commercial construction projects, experts such as Scott insist that there are deals to be made.
Set yourself apart from the competition by learning how to do so.