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The first thing you need to learn about construction finance is that you have to fund two different loan periods, each with different level of risks. Most of the owners secure 2 loans, 1 for each period. In the first period of construction, the loan is taken for construction. The second loan goes for the period after construction, commonly known as a takeout loan. Typically, owners structure financing through a real estate holding company, which holds the construction property and the loans to limit risk for owners and their businesses.
A construction loan pays for up-front project costs. In many cases, you have to make interest-only payments at the time of construction. It means when the construction phase is complete, you still have to pay the full principal amount of the loan followed with the interest associated with it. The speed of your construction directly reflect your interest rates which in turn can lower the cost of your capital required in construction.
Once the process of construction is finished, you need your property to climb up few more steps to attain the stage known as stabilization. Stabilization is a condition when your constructed facility worth is more than the initial cost you had put in construction of the same. For lenders, your finished property is qualitative collateral, which makes lending to you lesser risk. Depending on property type you have constructed, it may require a specific level to gain stabilization until it’s reached a specific occupancy or rental income.
Once your property has reached the stage of stability, your chances of getting a permanent loan with a lower interest rate increases to pay off the existing construction loan. After that you have to pay the permanent loan back, which has a typical repayment structure and schedule already set. In some cases, you can take out a combination loan, which covers both the construction period and the post-construction period. In combination loans, conditions for stabilization are defined up-front, and a pre-negotiated interest rate and payment plan kick in once stabilization is achieved. The most favorable option would usually be a low-interest balloon loan, in which owners make low monthly payments (possibly interest-only) for a specified time period and make a large final payment. But because of today’s tight financial markets, balloon loans are difficult to attain.
At Riddhi Siddhi Multi Services, we understand that lending money for construction, particularly new construction, is riskier than many other types of lending, which in turn reduces interest of many big financing fiches. For starters, construction is a complex undertaking with many potential pitfalls. It requires a strong ownership group with a defined plan for finished facilities. And it demands a skilled project team to deliver your build on-time, on-budget and to high quality standards. Lenders want to know your project will succeed, so they’ll take measures to evaluate your project’s viability and their risk.
PASSING THE PROFIT TEST TO GET A CONSTRUCTION LOAN
Riddhi Siddhi Multi Services will work with you closely to understand the lenders mentality while granting loan. When evaluating potential borrowers for a construction loan, lenders start with the profit test, which determines whether or not your finished facility will be worth more than cost of the project —if you are planning to use your facility as a type of collateral for loan. Lenders will evaluate how much relevant experience your ownership group has and the experience of your project team. The lenders will analyze your investment value in your project using two measures:
Today, most lenders don’t usually finance more than 75 percent of a project’s value. On the basis of the job, the threshold may be lower than 75 percent. Riddhi Siddhi Multi Services can help you get the best deal for your construction finance. With low loan-to-cost ratios & loan-to-value, the lender is taking lesser risk which in turn decrease your need to have additional collateral or personal guarantees.
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