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7/30/2019 Ref Guide Loans Construction
1/19
Reference Guide for Submitting & ClosingConstruction Loans
For Business Banking & Small Business Banking
Introduction This reference guide provides information and step-by-step instructions forhow to submit construction loan applications and what happens after the
application has been approved.
Responsibility The Business Banker / Small Business Banker is responsible for submittingclients applications for constructional loans, and for certain steps in the
closing process. In addition, the Banker should understand the entire process
to enable him/her to answer clients questions.
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Reference Guide for Submitting & ClosingConstruction Loans
For Business Banking & Small Business Banking
Terminology The table below defines terms you should know to assist your client insubmitting an application for a construction loan.
Term Definition
AIA DrawRequest
An AIA draw request is submitted on an AIA DocumentG702 form and summarizes the original contract sum (+/-)
any change orders and the total completed to date. Thisform is extremely useful when monitoring a constructionproject and should be required for all constructionprojects.
AIA Schedule
of Values
AIA stands for the American Institute of Architects, of
which they drafted a set of uniform documents to be used
by general contractors for construction projects. An AIA
Schedule of Values is the detailed contractor budget that
is included in the construction contract. This term can be
used synonymously with detailed Budget.
As-Built (Final)
Survey
Useful to identify sidewalks, parking lots, and other
completed improvements. This survey is conducted at the
end of the project.
Contractor &
Borrower
Signed
Inspection
To avoid disputes on work performed, both parties should
certify they are ready for inspection by signing the draw
request. We will then fund into the borrowers
construction DDA account and borrower will write a check
to the contractor.
Fund on Work
in Place
Inspections by a 3rd party inspector are used to ensure
that the bank is only funding on work actually completed.
The 3rd party inspector will use the original AIA schedule of
values to confirm the status of completion for individual
items and recommend funding if completed. Note that the
AIA form is amended throughout the project to reflect all
change orders and their associated cost.
General Insurance coverage usually with $1MM in coverage for
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Reference Guide for Submitting & ClosingConstruction Loans
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Liability
Insurance
loans of $2MM and less. Coverage of $2MM per
occurrence and $5MM aggregate for jobs between $2MM -
$5MM. Insurance company providing coverage must have
a minimum rating of A
Investor Real
Estate
A real estate project that is built and leased by investors
to generate a stream of lease/rental income. Typically
includes multi-family, multi-tenant office, or leased retailprojects.
Lien Period The period in which to file a lien on a job where they were
not paid. The retainage period is never shorter than the
lien period in case someone files a claim. State law allows
that if the construction contract is recorded at the
beginning of the job and if at the conclusion of the job a
certificate of completion is then filed as well, the lien
period can be reduced from 72 days to 30 days.
Owner
Occupied
Real-Estate loans which are underwritten based on
the operating revenue of the owner-occupied
business that occupies the banks collateral.
Slab Survey Useful to ensure the building is not built in the wrong
place and shows the position of the slab in relation to
property boundary, easements, etc.
Workers
Compensation
Coverage
Insurance coverage provided by the contractor with
amount set by state statute. Insurance company providing
coverage must have a minimum rating of A
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Reference Guide for Submitting & ClosingConstruction Loans
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ConstructionLoans vs.ConventionalLoans
Construction loans are Non-Revolving Lines of Credit that allowfor interest-only payments during construction. Typical termsare 24 months and are co-terminus with the duration of theconstruction/renovation timeframe.
Conventional loans specifically deal with residential financing.
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Reference Guide for Submitting & ClosingConstruction Loans
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Characteristicsof aConstructionLoan
The following are the characteristics of typical construction loans:
Available for owner-occupied and investor real estate projectsincluding all projects where the take-out is SBA 504 or 7A.
Common types of construction loans are for (i) expansion ofowner-occupied business with the construction of a new
building; (ii) renovations to existing owner-occupied businesses;and (iii) leasehold improvements for tenant space.Construction of an IRE property is less common in the currenteconomic climate and is handled on a case by case basis.
Loan amounts follow the Maximum Credit Exposure guidelinesfor Business Banking Relationships and are typically $3,000M. Regional MCE approval is required for any loanamounts >$3,000M.
Construction loans are Non-Revolving Lines of Credit that allowfor interest-only payments during construction. Typical terms
are 24 months and are co-terminus with the duration of theconstruction/renovation timeframe.
All construction loans must convert to a term loan uponconstruction completion. Terms offered are 5, 7, or 10 yearswith amortizations up to 20 yrs. In special cases, higheramortizations are available. Please consult with your MCE fordetails on available loan structures.
Relationship based pricing is driven by deposits and ancillarybusiness.
Note: The primary repayment source on the loan drives theclassification of a construction loan as either owner-occupied orinvestor. Owner-occupied real estate loans are underwritten basedon the operating revenue of the owner-occupied business thatoccupies the banks collateral. Investor real estate loans areunderwritten based on the 3rd party lease income of the property thatis the banks collateral. As such, each has their own set ofunderwriting guidelines. Please consult with your MCE when youreceive a construction loan request to ensure proper classification forunderwriting and loan structure purposes.
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Reference Guide for Submitting & ClosingConstruction Loans
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Reference Guide for Submitting & ClosingConstruction Loans
For Business Banking & Small Business Banking
Factors toconsider whendevelopingTarget Zonefor potentialloancustomers
Higher overhead cost compared to what we earn and higher inrisk.
Only profitable to the bank if we obtain; a) the relationship ofthe owner and all of their business, b) the permanent loan, c)more in fees; and d) a satisfactory interest rate.
Deposits and ancillary business (i.e. Treasury Management&Merchant Services) factor into pricing the loan, but do notmitigate the construction risk.
An MCE approved Loan Pricing Model (LPM) will factor in: a) theconstruction risk; and b) the overall banking relationship toensure that an acceptable Risk Adjusted Return on Capital(RAROC) is generated from the fees and interest rate charged.
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Reference Guide for Submitting & ClosingConstruction Loans
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FactsRegardingConstructionLoans
Underwriting LTV (Loan to Value) & LTC (Loan to Cost)
o Owner-Occupied loans, where the primary repayment
source is the operating income of the owner-occupiedbusiness, allow for loan amounts up to the lesser of 80%of cost or 80% of appraised value subject to supportableloan amount derived from cash flow
o
IRE property types where the source of repayment is the3rd party lease income of the property are subject to IREand CRE underwriting guidelines which are morerestrictive than owner-occupied guidelines with LTV/LTCof 75%. Please consult with your IRE RelationshipManager for details on IRE loan structures.
Equity
o Explain to borrower that their equity can be in land value
or cash, and equity is used first. This delays the need toborrow during the project, saving the borrower interestexpense.
o The land value is determined by the original cost if the
property has been owned 3 years or less.
Note: Any cash equity not used for the project at the loan closingmust be deposited into a Capital One bank account with a hard hold.Capital One does not allow staged equity. The final equityrequirement cannot be determined until receipt of the final budgetand appraisal.
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Reference Guide for Submitting & ClosingConstruction Loans
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ApplicationRequirements
In addition to the standard application requirements for a loanrequest, the following items are useful if they can be obtained duringthe initial meeting with the borrower:
o Description of Proposed Improvements
o Detailed Budget
o Status of Building Permits, Plans and Specs
o Name of the Contractoro Current Debt on Property (if any)
o Expected Equity Contribution, Requested Loan Amount
and Terms
The IRE construction monitoring team will provide a detailed list of allitems that will be needed to close the loan. Please consult with themaccordingly.
Note: You must submit a request for the construction and thepermanent loan as you would for any other standard loan approval.For owner-occupied real estate construction loans, a TIP Form, IRE
preliminary budget review, and MCE approval is required prior tosubmitting to the BBC for underwriting. If the loan is an IREconstruction loan, then an IRE underwriting memo will be required aswell. The banker, in conjunction with MCE should engage IRE asneeded. Approval of the permanent loan is required to approve theconstruction loan.
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Reference Guide for Submitting & ClosingConstruction Loans
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Stages in theOverallProcess
Once the Banker submits the application package on behalf of the client, the
following is a high level overview of the process:
Stage Description
Underwriting The underwriting team reviews the submitted package,
requests any necessary additional documents orinformation and underwrites the project.
Pre-Closing Once the credit is approved, it moves to the Construction
Team who prepares the commitment letter and
coordinates surveys and other necessary pre-closing
work.
Closing Appraisals, environmental report, and all other necessary
reports, contracts, and inspections are coordinated and
conducted. Documentation is prepared and the loan isclosed with the client.
Post Closing The Construction Team monitors the construction,
requests inspections and coordinates draws.
Term Out The construction loan is converted to a permanent loan.
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Reference Guide for Submitting & ClosingConstruction Loans
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TheUnderwritingProcess
During the Underwriting Process, the following steps are completed:
11
Step Action
1 The Underwriter reviews the application package and
contacts the banker and / or the client to obtain any
missing documentation.
2 The Underwriter determines if the project is Owner Occupied or
Investment Real Estate (IRE).
If Then
Owner
Occupied
Loan capacity is determined by the cash
flow of the operating entity and guarantor
support. The Underwriter continues to
underwrite and makes a credit decision.
IRE The Underwriter will ask the borrower for
additional information to determine the loan
capacity. The Underwriter will share the
information with the IRE Team, who reviews
the project information and generates an IRE
memo to assist with the credit decision.
3 The Underwriter completes the underwriting process and
makes a credit decision (decline, approve, counter-offer)
which is communicated to the Market Credit Executive
(MCE) and the Banker.
4 The Banker communicates the decision to the client.
If Then
Approved Once the client accepts, the Banker will work
with the CSS to prepare a commitment letter
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Reference Guide for Submitting & ClosingConstruction Loans
For Business Banking & Small Business Banking
The Pre-ClosingProcess
During the Pre-Closing Process, the following steps are completed:
IREs construction team: Receives the approval Assists with preparing the commitment letter Works with Credit Support Specialist to gather/review all required
docs for closing Engages 3rd party inspector for upfront plan and cost review Engages appraiser for appraisal report based on as complete
value.
Assists with obtaining environmental review (i.e. Phase I or
Environmental Checklist.
The ClosingProcess
During the Closing Process, the following steps are completed:
Banker engages legal counsel and obtains closing checklist from LAD.All documentation that is provided in the closing checklist needs to bereviewed and approved by LAD and banks legal counsel prior toclosing.
All construction documentation is submitted to IRE for review andapproval by 3rd party inspector.
Once all documentation is reviewed and approved, the loan is ready
to close.
The PostClosing &Draw Process
During the Post-Closing & Draw Process, the following steps are
completed:
IRE Construction Team monitors the construction project to
completion to ensure that it is on time and within budget.
The Term-OutProcess
During the Term-out Process, the following steps are completed:
IRE in conjunction with LAD & the Banker close the Construction Loaninto Permanent Loan.
Roles andResponsibilities
The following are the roles and responsibilities of all parties who are needed
to close a construction loan:
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Reference Guide for Submitting & ClosingConstruction Loans
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Role Responsibility
IREs
Construction
Monitoring
Team
is to guide the Business Banker and Borrower
throughout the construction process to ensure
a complete project that is on time and within
budget. Prior to approval, IREs construction
monitoring team should be engaged as soon
as a request for construction financing isreceived so they can assist with the
preliminary budget review needed for
underwriting. Post closing, the IRE
construction monitoring team is responsible
for administering all construction advances
and assists in getting required documentation
for the Term Out (Permanent Loan).
IRE
Relationship
Manager
is required to provide an IRE underwritingmemo to the BBC for all investor real estate
construction loans where the primaryrepayment source is 3rd party lease income ofthe property. An IRE underwriting memo isnot needed for owner-occupied constructionloans where the primary repayment source isthe operating revenue of the owner-occupiedbusiness.
LAD (Post
Approval)
is to provide the Banker & CSS a closingchecklist of items needed. LAD is then
responsible for reviewing all of the requireddocumentation and letting the Banker / CSSknow if additional information is needed.LADs approval of all documentation is neededprior to closing. Post closing, LAD worksclosely with the IRE construction monitoringteam to advance funds in accordance withbank policy until substantial completion andclose the Term Out..
Business is to act as the quarterback on the
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Reference Guide for Submitting & ClosingConstruction Loans
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Banker transaction to keep the borrower informed on
the status of the request and gather the
needed information. Business Banker is also
responsible for engaging the attorney,
ordering appraisals & environmental reports,
tracking closing costs, and closing.
Client/Borrower
is to provide the information needed tosuccessfully underwrite and close the
transaction. Open lines of communication are
key to getting the loan closed in a timely
manner.
Attorney Attorneys Role is as follows:
a) Review all due diligence items;b) Prepare the loan documents for thebank (as required);c) Revise and review any in-house
prepared documents;d) Review and negotiate the titlepolicy;e) Review the survey and allcertificates of public records that wereordered to check for priorencumbrances on the property to bemortgaged, and;f) Assist in the coordination of the
closing process.
Credit
Support
Specialist
(CSS)
is to draft the commitment letter (IRE canassist as needed) from the Credit ApprovalMemo (CAM), gather all required closingdocumentation per LADs closing checklist,and coordinate loan closing between LAD,funding department, and attorney.
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Reference Guide for Submitting & ClosingConstruction Loans
For Business Banking & Small Business Banking
Construction
Document
Checklist
The following items are standard construction documents that willneed to be reviewed and approved by the banks 3rd party inspectorprior to closing:
A fixed price contract to include a schedule of values, outline of thedraw schedule, progress payments, duration of the project andretainage
A final loan budget that determines borrowers final equityrequirement at closing
Building plans and specifications All appropriate licenses and necessary permits Zoning Certificates and Utility Letters (as applicable) Proof (Certificates) of Insurance (builders risk [during construction],
workers compensation, multi-peril hazard, general liability, and flood[if applicable])
Geotechnical Soils Report (as applicable) Other items as required for each project.
Note: The above list is not comprehensive in nature and is presentedas an overview of the types of construction documents that will beneeded. Each construction project is different and additionaldocumentation may be needed depending on the specifics of the
project.
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Reference Guide for Submitting & ClosingConstruction Loans
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AppraiserRequirements
The CSS in conjunction with the banker will order the appraisalrequest through RETECHS to obtain an appraisal report that providesan as complete value. The appraiser will need the followingdocuments:
A full set of plans and specifications, a legal description of theproperty, a copy of the construction contract, and the final budget
to begin the appraisal process.o Plans and Specs (a legible 11 X 17 copy or pdf file from the
engineer/architect will usually work for the appraiser)o Draft or Final Contract (prefer to use the final contract)
o AIA Schedule of Values (i.e. Detailed Budget).
The appraiser will provide us with a turnaround time, which beginsfrom the date the appraiser receives all of the necessary documents.
DrawChecklistsPost closing, IRE will work with the borrower, the contractor, and LADto make sure that the bank is in receipt of all required documentationneeded for each draw advance. Please consult with your IREconstruction monitoring team for the complete draw checklist whichincludes, but is not limited to the following items:
o AIA draw request signed and approved by borrower
o 3rd party inspection report approving the amount to fund
o Proof of builders risk and general liability insurance(s)
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Reference Guide for Submitting & ClosingConstruction Loans
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FAQs Frequently asked questions and their respective answers follow.
Question Answer
What is the primary
risk for all
construction loans?
The primary risk of all construction loans is the
non-completion of construction. To mitigate that
risk, the Banks Investor Real Estate Groupmonitors all construction projects for owner-
occupied and investor real estate projects. IRE
provides a monthly report on the status of the
construction portfolio to Bank Risk Management,
the SBB credit officers and the MCEs.
What does prepaid
equity include?
Prepaid equity often includes the land purchase,
site improvements (like clearing and fill), A&E,
permitting fees, etc. When calculating the
borrowers cash requirement at closing,
verifiable prepaid items can be deducted from
the borrowers cash injection since these are sunk
costs.
Why does the bank
require equity on
construction loans?
Equity is required to ensure that there is enoughcash available to complete the project. Equity isalways funded first before any loan proceeds areadvanced. The amount of equity required isalways based on the total project cost. Totalproject costs include land, hard costs(improvements), and soft costs.
Total Project Costs Equity = Loan Amount
Equity + Loan Amount = Total Project Costs
What are change
orders?
Change orders occur in most construction projectsas the borrower may add (increase costs) ordeduct (decrease costs) items from the originalplans. Also, unforeseen costs related toconstruction delays or other extraordinary events,can increase costs. All change orders must beapproved by the bank.
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Reference Guide for Submitting & ClosingConstruction Loans
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Who can be the
inspector in the
construction process?
IRE will engage a licensed, 3rd party real estate
inspector to perform an initial plan/cost review,
and to monitor the construction progress. All
inspectors need to be a neutral, 3rd party to the
project to ensure that there is no bias. The bank
will not allow the borrower or an agent of theborrower to monitor the project. IRE has a list of
bank approved inspectors.
The construction
phase seems
complicated; how
can I get this done
efficiently?
The Investor Real Estate construction monitoring
team will guide you through the entire process.
The IRE construction monitoring team will answer
questions that your or your borrower may have to
ensure that the project is completed on time and
within budget. Leave it to the experts.
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