Chapter 18Chapter 18

Acquisition, Acquisition, Development, and Development, and

Construction Construction FinancingFinancing

Chapter 18 Chapter 18 Learning ObjectivesLearning Objectives

Understand commercial developments from the Understand commercial developments from the land acquisition stage through the construction land acquisition stage through the construction stagestage

Understand that a large proportion of the Understand that a large proportion of the covenants and restrictions contained in loans to covenants and restrictions contained in loans to finance the acquisition and development of finance the acquisition and development of commercial properties and directed at agency commercial properties and directed at agency problemsproblems

Understand those loan provisions that are common Understand those loan provisions that are common to commercial developments to commercial developments

Understand the basic mechanics involved in Understand the basic mechanics involved in determining the loan amount and periodic determining the loan amount and periodic disbursementsdisbursements

ACQUISITION: THE ACQUISITION: THE LAND LOANLAND LOAN

Acquisition of raw landAcquisition of raw land Speculator has no development Speculator has no development

plans but sees opportunity for price plans but sees opportunity for price appreciationappreciation

Developer may specialize and has Developer may specialize and has immediate plansimmediate plans

Warehousing is holding large parcels Warehousing is holding large parcels of land in advance of developmentof land in advance of development

INSTITUTIONAL INSTITUTIONAL LENDERSLENDERS

Commercial banks and thrifts are Commercial banks and thrifts are main sources of land financingmain sources of land financing

Riskiness of land acquisition loansRiskiness of land acquisition loans No operating income and few tax No operating income and few tax

benefitsbenefits Physical suitability/ Legal factorsPhysical suitability/ Legal factors Release ProvisionsRelease Provisions

SELLER SELLER ACCOMMODATIONACCOMMODATION

Land purchase optionLand purchase option Cost based on term of option, period Cost based on term of option, period

of exercise, volatility of land pricesof exercise, volatility of land prices Rolling optionsRolling options Additional options on more land as Additional options on more land as

existing options are exercisedexisting options are exercised Seller financing / Subdivision trustsSeller financing / Subdivision trusts

DEVELOPMENTDEVELOPMENT

Steps includeSteps include Zoning, engineering and surveying, Zoning, engineering and surveying,

subdividing, and physical worksubdividing, and physical work Land development loanLand development loan Subdivision control ordinancesSubdivision control ordinances Impact fees - cost recovery fees, Impact fees - cost recovery fees,

exaction, inclusionary zoning, etc.exaction, inclusionary zoning, etc.

CONSTRUCTION LOANCONSTRUCTION LOAN

Short-term over construction Short-term over construction periodperiod

Interest rate is variable and usually Interest rate is variable and usually over primeover prime

Interest payments are deferredInterest payments are deferred LTV ratios in the 60 to 80 percent LTV ratios in the 60 to 80 percent

rangerange

RISKS IN RISKS IN CONSTRUCTION CONSTRUCTION

LENDINGLENDING

Unfinished or partially completed Unfinished or partially completed projectsprojects

Unknown construction risks such as Unknown construction risks such as weather, prices, strikes, etc.weather, prices, strikes, etc.

Mechanic’s liens, personal injury, etcMechanic’s liens, personal injury, etc Failure to meet building codesFailure to meet building codes Permanent lender commitment failurePermanent lender commitment failure

CONSTRUCTION LOAN CONSTRUCTION LOAN PROVISIONSPROVISIONS

Reference to the promissory noteReference to the promissory note Construction procedure detailsConstruction procedure details Loan disbursement detailsLoan disbursement details Designed to insure expeditious Designed to insure expeditious

construction, within budget and construction, within budget and without additional lienswithout additional liens

CONSTRUCTION LOAN CONSTRUCTION LOAN ADMINISTRATIONADMINISTRATION

Making sure that Making sure that – Construction proceeds as scheduledConstruction proceeds as scheduled– Construction work conforms to Construction work conforms to

specificationsspecifications– Cost overruns are avoidedCost overruns are avoided– No other liens supercede the lender’sNo other liens supercede the lender’s– Permanent lender conditions are not Permanent lender conditions are not

violatedviolated

CONSTRUCTION LOAN CONSTRUCTION LOAN DISBURSEMENTDISBURSEMENT

Lender requires some equityLender requires some equity Developer wants to draw funds only Developer wants to draw funds only

as neededas needed Interest accrues to borrower to the Interest accrues to borrower to the

end of the loanend of the loan Lender will usually charge a Lender will usually charge a

contract rate plus loan fees and contract rate plus loan fees and pointspoints