Presenting a live 90-minute webinar with interactive Q&A Construction Lending: Key Issues for Negotiation and Documentation Mastering Conditions to Advances, Loan Balancing, Payment and Completion Guaranties, Retainage, and HVCRE Equity Requirements THURSDAY, APRIL 27, 2017 1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific Today’s faculty features: Lauren E. Anderson, Hillis Clark Martin & Peterson , Seattle Lisa Berden, Member, Dorn Berden , Southfield, Mich. Heather M. Dorn, Member, Dorn Berden , Troy, Mich. The audio portion of the conference may be accessed via the telephone or by using your computer's speakers. Please refer to the instructions emailed to registrants for additional information. If you have any questions, please contact Customer Service at 1-800-926-7926 ext. 10 .
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During this presentation, we will define: ● the construction loan process ● the risks involved with construction lending; and ● the steps that lenders and their legal counsel can take to minimize these risks by conducting sound due diligence and drafting solid loan documents. We will also focus on key provisions and documents that every lender’s counsel should have in his or her arsenal, and advise you of the HCVRE Equity Requirements that affect construction loans. 5
I. Introduction Construction lending fills the short-term credit needs of developers. These loans focus upon the development of: ● office ● retail ● industrial ● hospitality ● residential They generally take place after the inception of a business plan/feasibility study and during the development phase of the project. 6
I. Introduction The Key Aspects of Construction Loans: ● Loan Term ● Disbursement terms and draw requests ● Repayment terms ● Collateral/Guarantees ● Representations and Warranties ● Default and Remedies ● Take-out strategies 7
II. Parties to a Construction Loan Lender(s): ● Banks ● Individuals ● Credit Unions ● Collective Funds ● HUD ● Mezzanine Lenders --Consider an Intercreditor Agreement, which establishes the terms of repayment between senior and junior creditors. 8
II. Parties to a Construction Loan Borrower: land owner or developer Guarantor(s): individual(s) with established creditworthiness, who guarantee(s) the repayment of the loan. Examples of Guarantors: 1. Where LLC is the Borrower, Members are guarantors 2. Where C corporation is Borrower, Parent is guarantor 3. Where there is a ground lease scenario — Landowner can be guarantor 9
III. Construction Lending Risks The biggest risk to construction lenders is the repayment of their loans. ● Initial due diligence review is a very important step to lenders. ● Careful contract drafting is also essential. --Checklist of essential documents (attachment) Repayment is dependent upon the project’s successful completion, which in and of itself is subject to many risks. 10
III. Construction Lending Risks Risks to Successful Completion and therefore loan repayment: 1. Fraudulent diversion of the construction draws : ● Consider whether there are multiple contemporaneous projects. ● Lenders can minimize this risk by carefully drafting draw request provisions. ● Obtain Loan Policy of Title Insurance and seek materialmen endorsements. 11
III. Construction Lending Risks Risks to Successful Completion and therefore loan repayment: 2. Liens filed by contractors, subcontractors, or materialmen for lack of payment . ● Lenders must consider the construction lien statutes in their jurisdiction and understand the priority of construction liens with respect to their mortgage interest. ● Record security interests in a timely fashion. --Mortgage --Assignment of Leases and Rents --UCC Financing Statements for Personal Property 12
III. Construction Lending Risks Risks to Successful Completion and therefore loan repayment: 3. Failure of contractors or subcontractors to complete the construction due to inadequate experience, negligence, or financial failure. ● Review Development Agreement ● Review Contractor/Subcontractor Agreement ● Review Architect contract 13
III. Construction Lending Risks Risks to Successful Completion and therefore loan repayment: 4. Cost overruns due to unforeseen conditions: ● low-ball bids ● change orders ● cost increases (labor/materials) ● labor shortages/strikes ● soil conditions/weather ● force majeure (earthquakes, tornados, storms) 14
IV. Due Diligence In order to obtain the knowledge and understanding needed in any construction deal, Lenders engage in extensive due diligence. A. Borrower and Guarantor. Lender must obtain sufficient information to ensure that Borrower and Guarantor: 1. Have authority to borrower money or guaranty a loan, as applicable, and enter into their respective loan documents 2. Are in a financial position to support debt service and guaranty 3. Meet all federal regulatory requirements 15
IV. Due Diligence B. Property. At the end of the day, whatever the stage of construction, this is the Lender’s collateral. Lender needs to review all documents relating to the condition and the value of the Property. 1. 2006 ALTA Title Policy and Endorsements 2. Survey (preliminary and final) 3. Environmental Reports and Reliance Letters 4. MAI Appraisal (“as - is”, “as - completed” and “as stabilized”) 5. Pre-Leasing and Pre-Sales a. Pre-Leasing and Leases b. Sale Contracts/Minimum Sales and Release Price Schedule 16
IV. Due Diligence C. Construction of Project. In order to ensure construction of the Project in a good, workmanlike manner that will support future loan advances, Lender should review: 1. Construction Budget 2. Plans and Specifications 3. Construction Schedule 4. Contracts (Contractor, Architect, Engineer) 5. Permits 6. Availability of utility service 7. Additional insurance 17
IV. Due Diligence D. Stabilization of Project. The Project obtains its real value once construction is complete and can be sold or leased, depending on the nature of the Project. 1. Collateral value based on a. Current/projected vacancy and absorption values b. Lease renewal trends and projected rents c. Time frame for obtaining stabilized occupancy d. Net Operating Income of the property e. Any cross-collateralization 2. Loan Take-Out Options a. Conversion to permanent loan b. Find a buyer c. Refinance 18
High Volatility CRE Regulations Exemption from HVCRE designation, borrowers who originate commercial acquisition, development and construction: loans must meet a 15% equity requirement, Borrow $$ must be first in; and leverage on loan cannot exceed 80% LTV . OR, a Community Development Project 19
High Volatility CRE Regulations HVCRE If exemption conditions not met: Loan subject to a 150% risk weight requirement -- up from prior 100% requirement. Loan stays designated HVCRE until converted to permanent financing, sold or paid in full. Funds must come from Borrrower, not a grant or other project loan Soft costs contributed by Borrower can be included in Borrower contribution SBA loans not automatically exempt Any contribution to the project must stay in the project for life of project 20
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