Construction loans and commercial loans
Construction Loans and Commercial Loans
Many business financing experts continue to project that the rapidly-changing environment for commercial financing and working capital loans will involve a series of new but avoidable problems for business owners. These new challenges are increasingly evident with commercial mortgage loans, particularly those involving commercial construction financing.
There have always been complex problems for business owners to avoid when seeking commercial loans. By most accounts, these difficulties are now expected to multiply because we appear to be entering a period which will be characterized by even more uncertainties in the economy. If this financial turmoil continues to be present, previous rules and standards for commercial mortgages are likely to change quickly and with little advance notice by commercial lenders.
This article will evaluate why commercial construction loans have become harder to obtain and will discuss possible commercial finance funding solutions. The current economic uncertainties combined with less capital availability for commercial mortgages in general and construction financing in particular means that it is much more likely that borrowers will need to look beyond their regional market area for business financing help. In many areas of the United States, virtually all business construction funding sources are effectively inactive at this time in addressing new loan requests.
Even before business finance funding options became more limited recently, construction loans were generally considered to be riskier than other commercial financing by most lenders. For a commercial lender, the most significant risk factors for commercial construction financing usually include the following: (1) a commercial property cannot produce revenues which will be used to repay a loan until the property is completed and occupied; (2) the potential for contractor liens is an added and substantial risk; and (3) many commercial construction projects take more time to complete than originally projected and/or exceed initial cost estimates. Of these factors, the risk of potential contractor liens appears to be a particular concern for commercial lenders because of the deteriorating health of the construction industry. In any event, current delinquencies in loan payments for commercial construction financing are running well above normal.
Construction financing for homebuilders has always been viewed separately by lenders because the eventual owners of single-family homes are individuals rather than businesses. From a commercial lending perspective, it is likely that the current difficulties seen in residential construction are indirectly impacting the availability of construction funding for commercial properties because the potential for contractor liens incurred during residential projects can quickly reduce the financial stability of contractors involved in both residential and commercial construction projects. This is a further reason why lenders are increasingly focusing on the risk of contractor liens as a rationale for providing less construction financing.
The feasibility of real estate investments has traditionally included an enduring theme of “location, location and location” which reflects the importance of a specific locale for investing. This is still an important factor when lenders evaluate the prospects for commercial real estate loans involving both existing commercial properties and new construction. A lender is likely to be most comfortable with a stable to growing revenue stream for a business which will in turn result in a stable to growing property valuation, thus preserving collateral for the commercial mortgage loan.
For the first time in several years, however, we are generally seeing widespread reductions in both residential and commercial property values throughout much of the United States, with some areas of the country exhibiting more volatility than others. A severe recession will result in decreasing income for many businesses over an extended period of time, and it is very difficult for either lenders or borrowers to project when this downward trend will reverse.
In pointing out how business financing can vary based upon location, it should be noted that the selection of non-local lenders can be a practical solution for commercial financing involving both new construction and existing commercial properties. In the challenging commercial borrowing climate that currently prevails, business owners should seek candid advice from a commercial loans expert who can provide effective strategies for difficult and changing business finance funding situations such as those described above.
