Guide Category: Ground-Up Construction Loans

While attending the IMN Single Family Rental Conference in December 2021, our CEO, Rocky Butani, interviewed Nathan Trunfio, Managing Director and Head of Sales at Lima One Capital, to get more insights about this topic.

The majority of real estate investors who specialize in rehab value-add deals for multifamily and residential investment properties have had a hard time finding deals since the beginning of the pandemic due to record-low inventory. Some of them have shifted their investment strategy from rehab to development projects, and ground-up construction has become a very popular loan program in the private lending industry.

Increased Competition for Land Acquisition

In addition to the rising costs of building materials and construction labor in twenty twenty-two, investors face another challenge which was the catalyst for the shift to ground-up development projects, and that is low inventory. Starting in early 2021, there has been a huge demand for buildable land in urban and suburban markets throughout the country. If an investor is having a hard time finding vacant land to acquire, they may need to seek improved properties that can be torn down, but those too are in high demand.

Maximum LTV for Land Purchase Financing

The majority of private lenders that offer ground-up construction financing will also fund the land acquisition. The typical LTV is fifty percent of the purchase price for unentitled vacant land, and up to sixty-five percent of the purchase price for entitled vacant land. So investors will need to have a cash down payment of thirty-five to fifty percent for the purchase.

How to Find Private Construction Lenders

If you’re looking for a private lender to fund a residential or multifamily ground-up construction project, use our website as a resource. There is no fee to search for lenders and make contact with them directly.

1. Start at the Residential Construction Loan page
2. Type in a state or major metro area, and click SEARCH
3. Click REFINE RESULTS if you want to filter the list
4. View each lender’s profile to learn about their guidelines, pricing, and much more
5. Click the green CONTACT button and reach out to the lender directly

Please remind each company that you found them on PrivateLenderLink.com. 

We also have a great system to make your search for lenders more efficient. Click the ‘Create a Loan Request’ button to enter your deal information. Save it, then invite select lenders to view it, and they can message you directly through our platform. If you’d like some assistance with your lender search, you can click a button to request recommendations from us. We’ll view the deal and invite a few select lenders, some of which may not have a public profile on the site.

We frequently see loan requests on PrivateLenderLink.com from real estate investors who have successfully completed a number of property rehab projects, and they want to make the shift to development deals. The reason for this could be that there are not enough rehab opportunities in the market, or the potential profits in a development project may be higher. But finding private financing for these deals could be a big challenge for real estate investors who’ve never completed a new construction project. Because ground-up construction is far more complex than rehab projects, most private hard money lenders will not consider financing if you have never completed a similar deal in the past.

Experience Requirements for Private Construction Loans

Most private mortgage lenders will require the borrower to have completed at least 2 ground-up construction projects, as the investor or developer, in the past 24 months. Some lenders require 3 or 4 completed projects, and a few lenders require only 1.

If you’ve flipped hundreds of houses or rehabbed lots of multifamily properties, that does not count. Hiring a top-rated general contractor doesn’t help either. However, if you are a general contractor with years of construction experience building for clients, and you’re doing your own investment for the first time, that could make a strong case for a lender. But if you’re a subcontractor with expertise in one or two trades, that wouldn’t qualify because you need to have experience with all aspects of a construction project from start to finish.

Another thing to note is the less experience you have the more cash you’ll need to contribute to the project cost, and you’ll need to have lots of additional cash on hand for reserves, in case the project goes over budget.

Strategies to Getting Construction Financing Without Experience

There are two strategies we suggest which may enable you to get private construction financing without experience.

Strategy #1 – Partner With a Developer

The first strategy is one that most lenders would likely suggest, and that is to partner with a developer who has sufficient experience. This can be a touchy subject for some property investors. You may not want to share the profits on your first deal, or you may not trust a developer to be your partner.

And what if you don’t know any developers with who you can partner with? One solution to that is to start networking in the community where you plan to build. Find out which developers are currently working on projects similar to yours and reach out to them directly. You may be able to meet developers in person at city planning hearings or real estate investment club meetings.

If you decide to use this strategy and you’re able to find a partner, you’ll need to form a new entity for the partnership, and both of you would be co-guarantors on the loan. You can look at this partnership strategy as a learning experience for just one or two projects, then you may not need a partner for future deals.

Strategy #2 – Hire a Construction Consultant

The second strategy we suggest is to hire a construction consulting firm to guide you through the entire project. It’s a rare and unique service, but a construction consulting firm could be a great solution. They can evaluate the project feasibility, estimate potential profits, set up your budget with realistic cost estimates, hire contractors, review inspections, and advise you on all aspects of the project until completed. The cost for this service can add a lot to your budget, but it’s a good alternative to partnering with a developer who will take a lot of the profits.

Now, this strategy is not widely accepted by private lenders, so you’d have to propose this and make a case. It may be best to hire a consultant to evaluate your project and set up a budget before you reach out to a lender. The benefit to this path is the lender can see the consultant’s work first hand. Along with the budget, create a resume for yourself to document all of your past real estate projects, financials, and current assets. Also, you would have to assure the lender that the consultant’s services will be retained for the entire project, not just in the beginning until you get the financing.

How to Find Residential Construction Lenders

You can find direct private hard money lenders right here on our website. There’s no fee to search and no registration required.

1. Start at the Residential Construction Lenders page
2. Type in a state or major metro area, and click SEARCH
3. Browse the list, and use the filters to refine the results
4. View each lender’s profile to learn about their guidelines, background and more
5. Scroll down to find the Construction Loan Criteria section. The rates and fees at the top of the page may apply to different loan programs.
6. Click the green CONTACT button and reach out to the lender directly

How to Find Construction Consultants

You can also find construction consulting firms here on our website.

1. Visit our Service Provider Directory
2. Click ‘Investor Services’
3. In the Filter section, select ‘Construction Consultants’
4. View each company’s profile to learn about their services
5. Click the green CONTACT button and reach out to the company directly

Before 2020, a small percentage of private hard money lenders offered ground-up construction financing because it’s so much riskier than a rehab or bridge loan. But starting in late 2020, construction loans became more mainstream in the private lending industry for single-family homes, townhomes, and small multifamily properties in urban and suburban areas.  The exit strategy can be to sell the property upon completion, or rent it and refinance with a long-term loan. No private lender will provide a construction loan for someone who is planning to occupy the home as their primary residence or a 2nd home. Private and hard money lending is only for investment purposes. And it’s only for experienced investors.

Guidelines & Requirements for Private Construction Loans

Experience is the first requirement for getting private construction financing. Most hard money lenders require you to have completed 1 to 3 construction projects in the past 2 years. Rehab experience won’t typically qualify because ground-up is so much more complex. If you have never developed a property or managed a construction project from start to finish, it will be difficult to get financing from a private or hard money lender.

Maximum Loan-to-Cost for Residential Construction

Once the project is shovel-ready, most hard money lenders will max out at 75 percent of construction costs, and some will go up to 85 percent. So you will need to contribute 15 to 25 percent of the total project costs in cash. Very few lenders will consider using the land equity instead of cash, but it may be possible. And if you own another investment property which is already built, a lender may be able to take a 1st or 2nd mortgage on that property as collateral instead of cash. Even if you use another property as collateral, you will still need to have some cash reserves in case the project goes over budget or the exit takes longer than expected.

Financing the Land Development

What if the project is not yet shovel-ready? Well then you’re still in the Land Development stage, and the majority of private construction lenders want nothing to do with that. As mentioned earlier, more and more lenders are becoming comfortable with financing development projects, so some lenders will consider the land development but only if they are also funding the vertical construction. If you do find a lender that will fund the land purchase, the leverage depends on which phase of development you’re in.

For a project that has entitlements but no building permits, the maximum LTV is 50%, so you’ll need to contribute 50% of the purchase price in cash. If the project is approved and you have building permits in hand, a lender may go up to 65% LTV. And by the way, the maximum loan-to-value is the same thing as the loan-to-purchase price. Lenders don’t care if you think the land is worth much more than what you’re buying it for. To a lender, the purchase price is the value.

In order for a lender to consider including land in the financing, it must have entitlements. If the project is not entitled, you will likely have to find a different private hard money lender that is comfortable with funding bridge loans secured by unentitled land, and you’ll still need to contribute at least 50% of the purchase price in cash.

Typical Interest Rates and Fees for Private Construction Loans

So what is the typical pricing for ground-up construction financing? Prior to 2020, most lenders were in the range of 10% to 13% interest plus 2 to 4 points in origination fees.

However, at the time of this writing in June 2021, we are seeing a lot of lenders advertising rates as low as 8% plus 2 points for shovel-ready construction projects. If your project includes any land development, you likely won’t get the lowest pricing.

The recent drop in pricing for construction loans has been fueled by low interest rates, which caused a huge demand for new homes, and there is a lot of capital available that is attracted to homebuilding. When the housing market cools off, we may see interest rates for private construction loans go back up above 10%. Or maybe not.

Other Fees Besides Interest and Points

In addition to interest and origination fees, you’ll have to pay for closing costs and inspection fees. Throughout the project, the lender will need to frequently visit the job site to confirm that each phase has been completed.

Most lenders hire a third-party service for this, but if the job site is within driving distance to their office, they will likely send someone from their company to do the inspections. Some lenders waive the inspection fees when they do it themselves.

Interest Charged on the Entire Construction Budget?

Another item to consider along with the pricing is whether you have to pay interest on the entire loan amount, or only on the funds drawn. These days it seems to be about 50/50 with half the lenders in our network only charging interest on dispersed funds. For many lenders, this is not possible due to their capital structure and/or licensing. For example, lenders in California that are licensed by the Department of Real Estate are required to put the entire construction budget in a third-party escrow account, so they can’t use the money for other lending activities. Therefore, they have to charge interest on the entire loan amount. This is also known as Dutch Interest.

How to Find Residential Construction Lenders

You can find direct private hard money lenders right here on our website. There’s no fee to search and no registration required.

1. Start at the Residential Construction Lenders page
2. Type in a state or major metro area, and click SEARCH
3. Browse the list, and use the filters to refine the results
4. View each lender’s profile to learn about their guidelines, background and more
5. Scroll down to find the Construction Loan Criteria section. The rates and fees at the top of the page may apply to different loan programs.
6. Click the green CONTACT button and reach out to the lender directly