There are many aspects of institutional construction loans that most people don’t understand (which is also why private construction mortgage financing tends to be more common), but perhaps that biggest single aspect that a self builder needs to get clear on is the equity requirements of the project.
An institutional lender is going to have a predetermined drawing schedule that they’re going to lay out for you when you apply for construction financing with them. The key to getting qualified is to prove to them that you have the funds available from an equity source (not another loan) to fund all the construction to the completion of the first draw stage as they define it.
This is not only going to require proof of funds, but a solid budget that is well supported and a work plan that demonstrates when the first draw stage will be completed and the costs required to get the project to that point.
This is the key step to getting approved.
Once approved, the next challenge is getting to that first step of completion or first draw stage on your own with your own funds. While that may seem straight forward, here are some additional things to consider.
When the first draw request is made, the institutional lender will send out a third party appraiser to assess the amount of work remaining in the project. Its not uncommon for these third party assessment to be overly conservative, and perhaps even out to lunch in terms of what is still required to complete the remaining project as well as the defined elements for the first draw.
If the appraiser report indicates that there are specific items still not completed in the first draw stage, its back to work for you until they are done to the satisfaction of the appraiser with no money being advanced in the mean time.
When the appraiser gives his or her ok on the first draw completion, they could still report that the remaining work on the balance of the project will cost higher than what has been budgeted. This will cause the lender to cut back your draw request to make sure their are sufficient funds to complete the project, leaving you potentially scrambling for funds to keep the project on track.
Getting to and past the first draw is critical to getting the construction loan funds flowing properly and actually getting full value out of the construction loan you’ve been approved for.
Just make sure all costs and work elements are tightly aligned to your plan so that the risk of funding delay or cut back are minimized. Also provide for some form of contingency fund as there is a very good chance you may need it, not to deal with cost overruns, but to offset lender draw reductions based on ultra conservative third party assessments of the remaining work.