Construction Loan Considerations for Private Lenders

Melissa Martorella:

Hi everyone. Thanks for joining us this morning. We are going to give it a couple seconds here to see if we can get people to file into the webinar room. I'll just have it a moment and then we will get started.

Let's give it another moment here. Let people file in. All right well today, welcome everyone. Today's webinar is Prepare Yourself. We are going to be talking about construction loan considerations for private lenders. Couple of housekeeping items before we get started. First, yes, this webinar is being recorded and it will be available to you afterwards. I believe we'll be sending out a blast where a link to it will be. And then in addition, it'll be on our website probably forever. So feel free to share those links with your friends, your family, your coworkers. We'd love to have them check us out. Second, yes, slides will be available afterwards. They will be sent to you in that same little email blast, so look out for those. And then last item is if you see in the Zoom video there's going to be a chat box and there's also a q and a section. Please put your questions in the q and a area, not the chat box. That'll help us keep track of the questions better when we do the q and a section At the end of this it'll help us just make sure we get your question in the order that it was. So without further ado, construction loan considerations for private lenders.

You guys might know me, Melissa, I am one of the attorneys here at Geraci. I'm on the banking and finance team. I specialize in loan document drafting and a lot of compliance related to loan documents and in all 50 states. And then also any agreements related to loan documents, so whether that's a modification, forbearance, foreclosure related issues that would be my expertise. And then with me today, I have Kyle, take it away.

Kyle Niewoehner:

I am also an attorney here and draft loan documents and other stuff. I draft a lot of construction loans, handle a lot of that, so that's why I'm riding shotgun with Melissa here today.

Melissa Martorella:

It's going to be a fun one if you guys have not had the opportunity to work with Kyle yet, I hope you do soon. He is definitely one of, he one of the most diligent attorneys I have ever met, but he also got a great personality and sense of humor. So hopefully that comes. So today's agenda we're going to talk about the following. First we're going to kick it off with working with title. A lot of people don't think of this right away when you're dealing with construction loans or think that you only really have to worry about this if you're dealing with a big construction deal. We're going to talk about why you should really be working with title early and often. Then we'll go into small project considerations. So those little mini rehab projects, redoing a kitchen or bathroom, the minor changes that you might be making a construction loan for.

We'll talk about large project considerations whether that's ground up, a huge project being done, whether there's assignments or contractors in place that you need to deal with. We'll be looking at that. And then lastly, we'll go over how you should document this arrangement. So making sure the right documents are in place and you consider certain things when you are drafting up the loan documents to make sure that you are covered and protected. And then last but not least, we will have a q and a. So if you have questions but them in that q and a box and we will get to those.

So to kick it off here, working with title this is the best advice I can give you is talk to your title officer early and often. Oftentimes lenders, it'll be last minute, they'll order prelim on a property but then it's we're trying to close tomorrow. And by the way, this is going to be a construction loan, that's usually problematic and can cause delays for a couple different reasons. The first one being you should be really looking at outstanding mechanics liens as a first issue when you're dealing with title and also construction loans. Kyle, do you want to talk a little bit about what mechanics liens are and why this might be something you want to start addressing upfront and early?

Kyle Niewoehner:

Yeah, so just in case anyone doesn't familiar, a mechanics lien is a lien that a contractor or some other type of vendor, maybe an architect or somebody who's working on something related to a construction project, it's a lien that they can put on the property. So if the contractor has done a bunch of work and then they don't get paid their recourse is they can go and file a lien in the property records against the property. And it's just like the lien of a deed of trust in the sense that it's recorded and it has a certain priority depending on when it's, it's going to be recorded and then it has to be dealt with. It's on title, has to be paid off or dealt with in some way. And the thing about mechanics liens is they generally relate back to when work actually started on the property.

And obviously the contractor won't know at the beginning that they're not getting paid and so the lack of payment maybe comes at the end, but when they go and file the lien, that is going to relate back to whenever they started working on it. Title companies are always very concerned about not having to pay out any claims. That's obviously their goal. And so when you come in and ask for a mechanics lien coverage and then they know it's a construction policy, the pedal company, everything just kind of goes crazy. They underwrite these, they may require an indemnity package, you should expect that they're going to require an indemnity package, which basically means they're going to want a bunch of information about the project and particularly they're going to want to know if work has already started because as I just mentioned, the mechanic lien would relate back to when work started.

They want to know is there a potential claimant that is out there already. And if work has already started, that's another thing that you want to know upfront and understand. If work has already started, that's going to be a whole other issue in terms of getting title coverage, it's really hard to get mechanics lein coverage, mid construction, they may actually require you to stop construction for a period of time in order to even be willing to grant coverage. So that's something ideally construction has not started yet. If it has understand that on top of the other complexity of this that that's going to be something you'll have to deal with. And the type of title policy typically, well you want ALTA extended policy and then you are typically going to want the ALTA 32 and 33 endorsements for a construction loan.

Melissa Martorella:

And I think really to summarize what Kyle's going over there or went over there is are a lot of things with title that can cause delays for your closing. And so even if it's something, if it is a mid-construction project, be aware that you may have to pause and you might not be able to close right away. You might have 36 - 90 days of waiting before you can actually close that loan. So it's why it's just really important to talk to title upfront. There are no surprises exactly what's going on. And then if it does turn out that there is mid-construction or something you know can address it now rather than that being a surprise down the line. Sometimes that happens where borrowers aren't forthcoming about the status of the project and oh yeah, we actually broke ground a couple weeks ago or a couple months ago and then you have to deal with that.

So just a good thing to really be talking to your title officers and if you talk to them early and often, then they're your friends and they'll help you out and they'll come up with creative solutions for you rather than be like can't do that in a day. So it ends up being a little bit better for you when you can work with them and not put them under the gun from a time pressure standpoint. And then Kyle touched upon the type of title policy that you are going to want to look at. In addition, we have the ALTA 32 and 33 construction loan endorsements. Do you want to talk about these a little bit, why they're important, what they are, and what they do, and why lenders should be considering these for their construction loans?

Kyle Niewoehner:

Yeah, ALTA 32 and 33 deal with mechanics liens basically. And the ALTA 32 is more similar to any other endorsement that you get in that it goes on the title policy, the initial policy that you're going to get and it basically ensures that up to the point of the closing of the loan. There are no mechanics liens on title and they're saying basically if it turns out later someone files a mechanics lien and it relates back, it is effective prior to your loan closing, the title company is going to take care of that for you. Basically that you don't lose your lein priority to that mechanics lien. The ALTA 33 is a bit of a unique endorsement in that it is issued post closing and also you can get a whole bunch of it, you can get multiple ALTA 33's because what an ALTA 33 does is it effectively dates down the mechanics lien coverage for every time after you close the initial disbursement and then you make a disbursement to pay for part of the construction project.

The title company will issue the ALTA 33 to say, okay, now as of this time when you made this additional disbursement of funds, your priority is still protected from mechanics liens, there's nothing out there and will ensure it. And then again, the next time you make a disbursement they'll do another ALTA 33. And so we typically recommend here is even though the ALTA 33's aren't going to be issued until after closing, you want to estimate how many total disbursements you're going to make over the course of the loan and then tell the title company that and they'll let you pay upfront for a bunch of different ALTA 33's. The reason why you want to do that is because you want to have your borrower pay for that and you want to just have them pay upfront just like they pay for the other title endorsements at closing. You want them to pay for all the ALTA 33's that are going to happen over the course of the loan upfront and you've got that taken care of.

Melissa Martorella:

Absolutely, and to piggyback off of that as well as it, it's okay if you underestimated usually a good construction loan agreement or construction reserve will also put in there that the borrower's responsible. So out of the draw amount that's going to be given to the borrower the bar, you're going to forward some of the money towards that date down and that endorsement as well. So it's very clear that the borrower is going to pay for it, but it's always good like Kyle saying, ask for those upfront, might as well prepay them. It's just one less thing to worry about at the end of the day.

The next thing that we'll talk about here are some small project considerations. Really you're thinking about are the upgrades here, like we were saying earlier, are you just redoing a bathroom or kitchen or something minor that the hold back is probably less than 50 or a hundred thousand dollars and it's something that can be done quickly, maybe it can just be done in one draw. What exactly are you planning to do with this project that maybe makes it not nearly as complex as a full-blown ground up construction project or something larger? So you have a lot of options about how to approach a project like that can, whether it's a lender or rehab holdback versus a basic construction reserve in the documents. Kyle, do you want to maybe go through a couple of the different options lenders have here to document and work through these kinds of projects?

Kyle Niewoehner:

And regardless of what you call it, there are a couple of fundamental things that you want to figure out. The basic thing is how much structure do you need? Generally the more sort of structure and procedure you have in place, the more work it is for you and for your borrower, more trouble and for, so something that's really simple where they're just maybe they need to replace something or do one project at the property, you maybe just have a really simple little provision, you're going to hold back X amount of money and then once they complete it, they're just going to show it to you, show you pictures or whatever proof that this is done and then you give them the money. But for something more complex, you may want more structure, you may want more provisions, you want more control. One of the big considerations is are you comfortable dispersing directly to the borrower or do you want to pay the third party?

And the thinking here is basically it's easiest to just give the money to a borrower typically. I mean you already know them and you have a payment system disbursement system set up at least to some extent because you already gave them money once and if you're comfortable with it, you just see that the project is finished, they give you proof and you disperse the funds to them, but on something bigger you may want to disperse it directly to the contractor, the vendor who did it. And the reason for that would be making sure that the contractor gets paid is how you make sure that there's not going to be a mechanic's lien that it cuts out the middle man of the borrower, you pay the borrower and the borrower pays them and then what if the borrower didn't really pay them or they wanted to pay them less and then there's a whole issue and you don't even know what's happening. So the most secure way to just deal with it and have it done is to pay the third party, but then obviously that's more work for you. You have to communicate with this third party and figure out a whole arrangement with them. And so that's something where you need to just figure out, and we're happy to talk to you about this, but figuring out who you're going to pay, how much structure you're going to need, and if something is really minor, is it worth it?

Melissa Martorella:

Kind of pivoting a little bit over to maybe larger project considerations, aside from the amount of control and documentation that you might need about the arrangement is there's oftentimes different people and things in play, so there may be a general contractor and subcontractors there may be architectural plans you might have construction permits in place and there's a lot to consider with that. Kyle, how do you recommend lenders address these kinds of considerations?

Kyle Niewoehner:

Well, we're pivoting here now to large projects and so you've got a lot of stuff going on here, a lot to consider and assuming there's a general contractor on a larger project and the basic question is the borrower going to be the actual contractor? Sometimes you get borrowers that are contractors, they take out the loans and they do the work and they just do it all themselves. And in a lot of other cases the borrower's not a builder and so they hire a third party contractor. And the first reason why this really matters for you is if you have a borrower who's doing the work and then they default you have to come in and take the project over, you're not going to keep on the borrower to finish the work at that point you need to kick them off, basically take it over and you need to find a contractor yourself.

If there's a third party contractor, then we would recommend that you get an assignment of that general contact contractor's contract. So if there's a problem and you end up having to take over the project if the problem is on the borrower end and not on the contractor end, you have the option as long as you get that assignment to keep that general contractor on under the same terms that the borrower had them and you can just come in and take the borrower's place and have that contractor finish everything for you. Obviously there's an advantage there in that the same people working on it can just keep working on it. It's a lot smoother than having to go win and replace them and have someone else try to figure out what's going on, how do we finish this? Did they do this right originally?

And kind of similar concept with the rest of the elements that the architectural or other types of plans and design contracts, we recommend that you get an assignment for those on a bigger project. Again with the idea that if you end up having to take this project over, you're not starting from scratch. You can go and you have a legal to get the plans that exist to work with the architect that has already been working on this same property and you can just slide in there in the place of the borrower and take over and hopefully have a lot less turnover and chaos as you're trying to finish this project. And one thing I should mention, both of those instances, the assignments we prepare aren't just signed by the borrower. We have them signed by the actual contract or architect, whoever it is, because having that contract in place with the third party is going to be a huge help if you actually have to take it over.

You're not just some person coming in and saying, oh, I now am running this project. See I have this assignment, you report to me now. It's like they understand this happened, they signed an agreement with you and if you have to come in, they kind of have a heads up of what's going on. And that's immensely helpful if you actually had to take over and you wanted to start working with these people. And then the last part of it is just the permits, just the legal things that you need to even do the work. We also get an assignment for those same reason if you take over the project, you need to have a right to the permits so you can do construction legally without a whole nother delay to try to get new permits.

Melissa Martorella:

I mean just to reiterate too, creating that what's called privity of contract with these third parties is going to be really important like Kyle's saying because then you can really jump right in and say, Hey, no, you signed this agreement saying that you would work with me after a default. And it makes that process a lot smoother versus good loan documents. And ours would do this just in case you didn't get one of the assigned or one of the plans signed over or something happened and you forgot one of them or weren't told about. One of them is good loan documents will include within the security a right and interest in these things in plans and permits and the like but you really shouldn't rely on that by itself. The assignment is really better. Kyle, I don't know if you have any additional insight on that, but just another point that I often get asked

Kyle Niewoehner:

And the separate agreement is a lot better. Number one, having the third party involved but then also having one of the kind of boiler plate clauses in the documents is good and is helpful, but you get a lot more arguments with say borrower's attorney than if you have this separate agreement that is just all about this one thing and is really clear, your client gave this to my client, you don't really have anything to argue about

Melissa Martorella:

And it'll just help you down the line. We never want to take over a project, we hope it works out well, but if it ever comes to it and you have to jump in and there's a default, you've got to take it over. This will make it a lot less of a headache for you. Another large project consideration that sometimes people don't think about or understand a lot of the benefits or pros, cons, whatever is funds control. Sometimes if it's a smaller project, you know might not need funds control if it's a larger project or for example in California, depending on how the loan is arranged, it might be required. Can you talk a little bit about what funds control is, why you might want to consider it and pros cons for using a third party fund control?

Kyle Niewoehner:

So the funds control is basically a third party, a company that runs construction projects basically. So these would be the people who went, when the borrower submits a request for a disbursement from the construction reserve, they actually review the request for you. They will go and potentially inspect the property actually send a person out there. Sometimes they inspect the evidence that the borrower has submitted the lien waivers and they will go through basically the due diligence process of that all for you. As mentioned, if you're a DRE broker, you're doing a big construction loan, you may be legally required to have funds control, but even if not, you're doing a large project and you are not really experienced with construction yourself funds control can be invaluable because these are people that do this for a living. They know how to manage big projects, they know how to do the due diligence and to make sure that everything is being done correctly, not just being done but actually that the work is being done well. But the other side of this is they get paid, obviously they're not working for free, they get paid. And so this does add a notable expense to the project. And so typically funds control would only be used for bigger projects because otherwise the money's not going to be worth it. Your borrower is going to bulk at paying them, but on bigger projects it can be really invaluable.

Melissa Martorella:

And in addition as well, we kind of talked about title and getting date downs and getting those ALTA 33 endorsements they can also administer that process for you as well, which is generally pretty helpful.

Kyle Niewoehner:

Oh yeah, that's a really good point. They come in and work with the title company because when you're getting those ALTA 33's, again you're working with title, post-closing and title, they want to make sure that they're not, again, they're not having to pay for any mechanics liens, they're particular about what they get and funds control again, they do that for a living, so they're going to be able to do all that work with title for you as well.

Melissa Martorella:

Just super beneficial. And like Kyle said, you have experts on deck to review what the work was done. Was it up to code, is it satisfactory? Is there some sort of permit or other issuance that needs to get in place before the next ST phase in the pro project? They're really going to be on top of a lot of those things and really monitoring it for you. And so it can be very beneficial, but like you said, also expensive, so it'll weigh your options. The last little, I guess big topic that we're going to go over here is how do you really document this agreement that you have with the borrower in a really basic way? It's okay, I will give you money for you to build this project and do whatever it is but there's a lot of different ways that you can document that and you really want to make sure that whatever the agreement is that you've struck with your borrower is truly reflected in the documents themselves. I think a lot of times relying on boiler plate provisions, it's helpful, but oftentimes it may not actually reflect the agreement that you came to with the borrower and you may want more or less requirements in there depending on what it is. So the first kind of consideration that you might run into is do you need a full-blown construction loan agreement or could you use just a basic holdback provision in your documents?

Kyle Niewoehner:

Yeah, just to jump in here depending on where you're getting your documents, people use a lot of different names for different things. What really matters is sort of what you're getting in the documents. And so at our firm we have a standard loan agreement and then we have a construction loan agreement. So we take that for bigger projects and we actually use it. It's somewhat similar template wise, but there are some notable differences. So it really kind of beefs up a lot of the stuff related to the construction process. So there are additional events of default particularly that are related to starting work on time, keeping the work going. We have a provision in there that once they start, they can't stop working for more than 20 days at a time without giving some explanation or anyways it's laid out in the documents. And we also require them to obtain all of the permits within a certain amount of time and it has more formal disbursement provisions and things like that. So just generally the construction loan agreement has a lot more protections, a lot more specific things related to the borrower properly managing the construction project from the beginning to the end. And so that's typically for larger projects because again, it adds a bunch of extra events of default and stuff like that. And if it's some small thing, Barbara's not going to want that. You're probably not going to want that. You're not going to want us throw the loan into default for something when it's some small project.

Melissa Martorella:

Absolutely. It's definitely beneficial if you have, like we were saying, the one of these larger projects that's really complex that you need to monitor, maybe multiple different things are happening at once, but if it's a straightforward little fix and flip, it might not be necessary. Another thing that comes up when you're documenting the agreement that sometimes people don't think about our draw schedules and really thinking about how the borrower accesses any of the money held in reserve. Hopefully your construction holdback or your construction loan agreement, if it's a good one, will say what a borrower has to do if there are limits on draws and how many in a month or whatever it is. But oftentimes I'll see what we recommend is you also include a draw schedule and it's really just a schedule of what work needs to be done and what amounts will be allocated from the reserve to those amounts. And oftentimes lenders are like, oh, I don't need that. And you might want to consider that upfront. Kyle, do you want to talk about that a little bit?

Kyle Niewoehner:

Yeah the draw schedule really kind of comes down to you. You want to understand upfront exactly what is happening in this project, how much the different components are going to cost, and how long the different parts of it are going to take. And here again, it's sort of figuring out how big is this project, how much detail do I need? But you always want to come in with a good understanding of what is going to happen and how it's going to happen and how much it's going to cost. And you want to, number one, I mean you want to be able to tell if stuff is going over budget. So if it's a multi-stage project and you haven't set out a budget for anything, you won't know if it's going way over budget early on in the process. And so just things like that, you want to be able to keep track of where they're at in terms of the budget from the beginning to the end.

And then also you want to have some sense of the timing of all this so you can make sure that they're on track during the course of the loan and spot issues earlier rather than at the end finding out like, oh, this is way over budget and they're not done, and et cetera, et cetera. And so that really is what the draw schedule comes down to. The draw schedule can be really very basic for a complex project you might have a long list of items and expenses and then potential overages and how that gets adjusted, whatever, but it just basically comes down to understand what the project is going to be when it starts and understand the budget and timing.

Melissa Martorella:

And like Kyle saying, at the end of the day, this is really a budget for the project and it might change, you know, might midway through realize that something is terribly wrong with the foundation that you didn't realize and it might change things, but at least you have a budget in place. Hopefully there's some wiggle room within that to help for unexpected changes and it'll really help you throughout the project, just track the progress, understand where you're at a little bit better. The last kind of thing that you definitely want to make sure you have documented somewhere in the land documents are events of default and not just, oh, you didn't pay and therefore it's a default really construction specific events of default. Sometimes we'll get calls from lenders saying, Hey, my project has stopped, the borrower's not responding, they're not doing anything, they're not showing up, what do I do? And you look at their loan documents and there's nothing in there about stopping stopping work and having that be a default and those are really problematic. So you know got to think about the things that you would say, Hey, these things should really be addressed upfront and what happens if these things occur? So we've got some common ones here. If Kyle, you want to go through those?

Kyle Niewoehner:

Yeah, you just mentioned delays. We have kind of standard provisions in our documents that relate to this, but can be adjusted. Just figure out what you're comfortable with. And the big ones are how long do they have to start work after the loan closes, assuming they haven't started yet, how long do they need to get going? How long are they permitted to stop after they start in the middle of it and they just stop working? How long is that before you're saying, okay, this is a problem, this is a default, and then you know, have all of your rights under the default to go in and start making something happen. And then the L T V this is really more so at the Leonard discretion, but you may want to as the project is going on, keep evaluating where they're at in terms of the loan to value.

Typical on a construction loan, you have an end goal L T V that you're expecting after project completion. And so you may want to set benchmarks for that during the loan to make sure that they're on pace and that you don't end up with a project that is under way under your L T V that you need in the middle and then you're having problems and then you've got a lot to deal with and not very much value. And then construction completion timelines is kind of, we've already talked about this, but yeah, you definitely just need to have a time when they need to complete it and generally you want to have a bunch of benchmarks along the way to make sure that they're on schedule.

Melissa Martorella:

Absolutely, and these are just examples as well. A lot of times we'll put custom events of default in the documents as well, just depending on what's happening with the project. Sometimes there's an environmental issue that has to be addressed at some point in the project and if it's not addressed, it's going to be just an event default if that's not dealt with within a certain time. Or there could be other very specific project based events of default in here. So you can be very creative with these, thinking about what it means for the borrower to default setting whatever these benchmarks are and making sure that project really goes according to plan.

And then with that, I believe that that's it. We'll go through the q and a. It was a quick webinar. We just wanted to give some highlight overviews of some considerations lenders should think about when you're making construction loans some upcoming webinars just to throw those out there if you're interested on May 18th. So in about a month Nema and Kevin in our office will be talking about California DRE and DFPI previously the DBO licensing user loan sales and daily compliance. We know a lot of you are not in California, but for the ones that there's a lot of confusion about the two different licensing schemes that we have here in California. And so this is going to be a really great webinar to hopefully clear up some common questions and concerns that happen with those. And then also, Anthony we'll have a webinar also that same week later in the week on May 20th about enforcing commercial loan guarantees.

In today's world definitely as a post covid kind of take but also just what does it look like when you have to go in and enforce a guarantee on a loan? What are common issues, pitfalls things that lenders aren't thinking about maybe to go into. And that's with business group. If you guys have not worked with them, they're phenomenal as well. So two great upcoming events, please register links for those will be in the follow up blast that we have so we'll kick it off to q and a. If you do have questions after the fact our contact information is here, feel free to reach out to either of us. We would be happy to answer any questions that you have.

Kyle Niewoehner:

All right I'll get right into, I think this is the first one from Herb. Why is a mechanics lien a big issue if lenders in first position in the event of foreclosure? So yeah, assuming that you are still in first position, you've got a mechanics lien that is a junior lien why is it a big issue? Well, a mechanics lien is still going to be problematic. Potentially the borrower is going to have more trouble refinancing with the mechanics lien on title. There's also a lot of potential with mechanics liens for it to lead to litigation. So one of the common reasons why Alene might get filed is because there's a dispute between the borrower and the contractor over how much needs to be paid and that can get messy and that can cloud title even in terms of foreclosure. So you want the stuff with contractors to get settled and to not get onto title because even if you still have priority, it can get messy.

Melissa Martorella:

Absolutely. Another question here my title companies tell me that there is not ALTA 32. Any idea why they're saying that? Could it be regional? This was a New Jersey title company. So as a reminder, we talked early on about the construction loan endorsements for title policies and the ALTA 32 is the one that you would issue at time of loan closing that the ALTA 33's relate back to you as you advance proceeds from the reserve. Actually, I mean Kyle, I don't know if you've dealt with this, I have never had anybody push back on the ALTA 32, especially if it's a known construction loan. It's almost required that they're going to put it here. I don't know if this one's regional in particular but generally when I encounter something like this, I try to switch title companies.

Kyle Niewoehner:

Yeah, I, I've absolutely had pushback on these. I don't remember New Jersey particularly although we're doing a New Jersey one right now and I think we are having some trouble, I don't remember if it's this specifically, but there are some states that don't have the ALTA 32. There are some states where it's just generally very difficult, more difficult. And then there are other states where you might say, can I have the Alta 32, 33? And they say, no, we don't do that. But then if you talk to them, it turns out they have some other equivalent in that state. They just call it something different, but it basically does the same thing and they're just like, oh, well, we'll just have that. So yeah, just talk to the title company, figure out what's going on, figure out if, do you have a equivalent to that? You just call it something different or are you saying you just won't provide mechanic sling coverage period? In which case, as Melissa said, maybe you need to switch title companies. But yeah, different states call things by different names and so there's definitely a lot of potential for confusion

Melissa Martorella:

And yet again, to go back to our very first point of the webinar, talk to your title company early and often because then you can deal with these things up front rather than it being a day of closing concern. It can be something that you figure out ahead of time and talk to 'em and be like, oh, actually we call it this here. Yeah.

Kyle Niewoehner:

Yep. All right. Next one. On a small project, if you disperse to the borrower, would you recommend notifying the contractor that the disbursement took place? Yeah, I mean if you have the contractor, you have their contact information, that certainly doesn't hurt. I mean, yeah, if you, you already know them, definitely check and make sure that they got paid. That is ideal. You want to make sure that they get satisfied and so definitely, definitely a good practice.

Melissa Martorella:

Absolutely. Next question from Andrew. In this example, if we have a construction load in place with a rehab or construction holdback and we require a conditional, unconditional, and final waivers from the borrower and contractor, when it draw is taken, why would we need an Alta 33 endorsement Title? Companies are typically quite slow on the date down required for ALTA 33 coverage. This is a complaint that I get a lot that it does take title a little while to do this. The borrower needs some money, they need to pay people, they need to move on with the next phase of the project and that's holding it up with their date down. But you would need it to make sure that those additional proceeds that you're advancing are covered and relate back to the time of when you initially made the loan. And that way it's covered for any mechanics lien.

This is very helpful these waivers that you can get, and it's a lot of what title is probably doing in the background to help issue that ALTA 33. But at the end of the day, if you do have a title claim, title's not going to care that you, or maybe they will, but they probably aren't going to care that you did this in the background. If they'd have a process in place, the ALTA 32 and 33 endorsements to really make sure that this is covered. Like Kyle is saying too, title companies are not in the business of paying out anything. And so for me, I would rather be safe than sorry and make sure this is additional good practice to have, but I wouldn't rely on this by itself.

Kyle Niewoehner:

And I think this really, it kind of goes back to the purpose of insurance is like, yeah, if you do everything, hopefully you don't need insurance, but insurance there in case something got missed, some contractor like borrow didn't tell you about them or something. It's just it's there to cover you. But yeah, if you do everything and everything goes according to plan, then you're probably not going to need the insurance. So it's right. Again, just kind of thinking, well how much is this worth to me to make sure that if I missed something, it doesn't come back to bite me

From Terry. So these assignments are part of the closing docs? Yeah. I'm assuming this relates to when we talked about the assignment of the general contractors contract and architect and permits and everything. So yes, these are part of our closing loan document. The way that we handle it is let's say they already know who the general contractor is for the project, they have a contract in place, we are going to get that contractor to sign our assignment. Similarly with architect or any other contractor's, vendors who would be applicable, if they're already engaged, we get the assignment from them at closing. We don't close the loan without getting that assignment typically. But another circumstance that I have seen pretty often is they might not have a general contractor engaged yet and they're going to, but they just don't have that in place. So in that case, I would put in provisions in the loan documents where you say once they have a general contractor engaged, then they have to provide within what 10 days or something they have to provide this executed assignment of the contractors contract and you provide them with the format closing, you show it to them, this is the form they're going to have to sign, and then you put that post-closing provision in there and then try to stay on top of it after closing and find out when they have a general contractor in place and then you send that to 'em and say, Hey, you know, need to get this signed now.

So get it done.

Melissa Martorella:

Yeah, and it's definitely something too where you could tie that to an event of default. You could tie that to the first draw is not going to be given until this is in place. So I would also do that as well to kind of incentivize the borrower to make sure that that's in place.

Kyle Niewoehner:

Yeah, for sure.

Melissa Martorella:

Next question from Arnold how do you clear a mechanic's lien in a deed of trust state? So a lot of different things. Mostly it's going be those lien waivers and then also some sort of an indemnity title. Companies typically have a certain form that they will follow where the B, not the borrower the contractor is saying, yep, I was owed this amount, I was paid this amount good to go. And usually that that's how you're going to end up clearing it. It can take a little bit of time to get that together, but that's generally how you would clear those. Not just in a deed of trust state, but also in general that that's the process of for dealing with the mechanics lie.

Kyle Niewoehner:

All right. Looks like Mark, these are both part of the same question. I think. Who again did you say can be hired for funds control? What are they called? Just an inspector or someone special for new construction? So there are companies out there that do this I don't know, we always call them funds control. They might call themselves, I dunno what probably this is one of the things that they would describe themselves as the one that I've seen the most that I've worked with the most. I think their name is Partner engineering, partners Engineering, something like that. Something with partner and engineering in the name. So I know that they're really good. I think they're one of the bigger fund control firms. I can't think of any others offhand. But yeah, there are companies out there. Do you know any or

Melissa Martorella:

Yeah, if you want to email us, we can make some interest here. But there's also smaller companies like Dixie Line, there's Build Zig, there's a couple different places C cfsi, something like that there. There's several. So if you'd like to send an email to Kyle or I, we could definitely follow up and give you some context. Quick draw, fund control, easy to remember. So we definitely have some partners we could send you over to. The next question here from Brett is how often do you see a lender file an N O D or foreclosed based on a construction loan covenant default? Recently we saw one where the mortgage payments and the rehab budget were fully funded, but the client couldn't get the project off the ground. The borrower's attorney is challenging. The N O D I have not seen it just based on something like this where it's only the inability to get the project off the ground or at least using a notice of default to foreclose.

Usually if it's something like this, it tends to be a little bit more involved. So there's usually other outreach that's happening ahead of time. But that said, if it's a clear event of default under the documents and it's not a day late starting the project, they're clearly well behind. They haven't started. It doesn't matter that you know have an interest reserve or anything like that. If there's a clear event of default in your loan documents saying you had to start the project by X amount of time, if you don't get it off the ground it it's a default then you should absolutely be able to proceed. I usually like to also tie it to some sort of monetary default, so something with missed payments or otherwise, but if you have a full interest reserve, I understand the issue there where you can't really say that payments are being missed. But I'd be happy to talk to you about this in more detail too and maybe take a look at the loan documents as well to see what's going on and understand fully the default but you should theoretically be able to foreclose in this situation.

Kyle Niewoehner:

All right, next one from Michael. Can you make a loan time of 12 months of default with the option to extend the loan with new fees if they haven't finished the project? So I think the question here is basically you have a loan with a term of 12 months and that's the original maturity date, but then the lender has a sole option to extend with new fees if they want. We do have a client that does something like this. I don't know of a specific legal reason why you couldn't do this, but at the same time, I don't know that we've seen this really tested yet in court, so I don't know if I don't, to me it's not really an ideal thing to do to have this thing where you say, oh yes, I've now decided to extend the maturity date and I'm charging you all these new fees that that's not really something I would recommend. Melissa, do you have thoughts on that?

Melissa Martorella:

Yeah, I mean, to me it's either they get the project done or they don't. And if you're going to extend I, I don't know that I would want to charge the additional fees or interest or whatever it is. You probably could. It's a new agreement that's being negotiated and you could modify. But yeah, again, if it's something where the project isn't done in the initial timeline, that to me that's more concerning than anything that you can't get the thing done on time. So

Kyle Niewoehner:

Yeah, I would say just put some heavy default interest, like a heavy default interest rate on there. And then if you get in this situation, you can negotiate a forbearance with them and then, I mean, that's very standard.

Melissa Martorella:

Yeah, and then that's a real incentive too, because now you haven't waived any defaults. You're charging default interests, and so they've got to hustle a little bit to get that loan paid off and the project completed faster rather than you just extending out the maturity date. Next question here from Bobby. It's a good one. What are the three most common mistakes or oversights that you see lenders make? I think just based on what we talked about today the first one is really. When lenders don't talk to title upfront, we've made that point multiple times, but it is so important to talk to title. I'd also say failing to properly get assignments in place can really be a pain because there might be assignment, certain contracts or agreements in place that you have no idea about, and it's always good to have a really full picture and know exactly what you're getting into. And then for me, the last one would probably be also not documenting those events of default. We actually have had this happen quite a bit where isn't something in the documents about stopping work and you're like, I don't know what to tell you. So it's definitely, and then you have to come up with some creative default maybe is not but those are definitely three things that I see sometimes that I would recommend lenders avoid. Kyle, I don't know if you have any other advice.

Kyle Niewoehner:

Yeah, I think I would cosign on all of those. I mean, I can't even count how many times I've seen a lender bar, we're both on the same page. We need to close this quickly, we want to get this done, and then they get to title and then it's just painful, slow, and then we're

Melissa Martorella:

Angry,

Kyle Niewoehner:

angry and we're trying to help with it, but it's like, yeah, I rushing title is very difficult and it's kind of like, well, you should have these protections in place and I'm sorry this is taking so long, but it's title for you. And then also the assignments one particularly, I mean, like I mentioned earlier, sometimes if you don't have a contract already in place or something like that and you need to get it, they are no less important for the fact that they happen, and yet it's really easy to just drop the ball, you mm-hmm. Disperse funds, close alone, get your fee and want to just forget about it for a while and originate new business. But if something goes bad nine months from now, you really want to have those assignments in place.

Melissa Martorella:

Absolutely. Got a couple of comments in here from Carl about spelling out funds control for your construction manager and then Steven from Quick Drop fund controls here, reach out to Steven. Nice. Definitely can help you out. Let's see. Keep scrolling.

Kyle Niewoehner:

I, I'll take the one for Daniel. Okay. How about if a builder is building a lease property for another party? Aen still be put on the property if the builder is building on lease property? Okay. I think this is about a mechanic's lien, so in terms of the contractor, it does not matter who they're working for, who owns the property, whatever the mechanics lien just relates specifically to the property that the contractor has actually worked on. And so their lien rights sort of almost stem directly from the property itself. They have done work on that property and it's almost like they're doing work on, so it gives them a stake in the property if they're not paid. So yeah, least or whatever, it doesn't really matter. If the builder has done work on that property, they can put a lien on that property.

Melissa Martorella:

Absolutely. Next question here from James. Not sure if I missed this earlier. Now, a lot of lenders will charge per draw fees or construction management fees seen as flat per transaction fees or percentages of the total budget. Are there better ways to do that and can we charge any way we want to on those? This is very common. It can either be a percentage of the draw or it'll be every time you ask for a draw, we're going to charge you $350 to process that draw. I would probably not do it as I prefer. I think maybe the flat fee only, because I don't know necessarily that between a $1,000 draw and a 10,000 draw dollar draw, whether the work that you're doing to process it is necessarily going to change. You're still doing a date down, evaluating whatever it is but either one of those, just the big thing, make sure that's in your agreement, make sure it's very clear that you're going to charge these fees so it doesn't come as a surprise to your borrower down the line. And also have it clear too, hey, borrower, if you're going to request a draw of $15,000, note that you'll actually get 14,500 because we're charging a $500 draw fee or whatever it is. So you'd make it very clear in the documents that that's what's happening if you're going to be charging fees throughout the process.

Kyle Niewoehner:

Next one. From Michael or No? Okay. Carl any thoughts on the owner prime bar? We're issuing a two or three party check to say a supplier slash subcontractor or general contractor in order to then expedite the ordering delivery of special building components. I don't know. I don't think I understand exactly what this is getting at. Melissa, do you understand this?

Melissa Martorella:

I think I'm trying to understand it as well. I think the question might be is can you pay that third party in advance for delivering components to expedite it? But I'm actually not sure as well. So Carl, if you want to maybe reach out to us, we can jump on a call with you to maybe understand exactly what's happening. Sorry.

Kyle Niewoehner:

I think if it relates to paying upfront versus paying later after the work is done, that's really at your discretion. If there's a good reason to pay upfront, and I guess maybe if the borrower is trying to get a disbursement of a payment upfront you can do that. I would just be more involved in that if that's the kind of process of, you know, understand what's going on, who's getting paid, what they're supposed to deliver and just kind of what's going on. But I mean, if it's important to expedite the project that they pay out front, that's that's potentially something that you might want to do. If you're comfortable with that and you see that there's a really good purpose.

Melissa Martorella:

Yeah. Next question here from David. Why would you advise a lender not to charge an extension fee in the context where the timeline has extended beyond the initial proposed term? You could I think I would rather say that this is a forbearance fee rather than an extension fee to kind of talk about what we were dealing with earlier is that way you're not waving the default, which is a maturity default and failure to complete on time, and instead the loan remains in default and you're actually a forbearance situation with your borrower. I prefer that from a lender's perspective. So you could absolutely charge a fee at that time. I would rather call out a forbearance fee rather than an extension fee with a corresponding extension of the maturity date.

Kyle Niewoehner:

Yeah, yeah. Leaves you, leaves you with less control. Angry. Yeah. Greg, thanks for coming. You know, people, that's our industry I guess, you and then once it's closed, everybody is happy and satisfied. This one from Kevin. Can you confirm the loan amount limit on construction when using private beneficiaries is 2,500,000? Yeah.

Melissa Martorella:

Oh yeah. This is the DRE requirement. So it's not just, you can absolutely have a loan that's more than two and a half million. The issue when you deal with California DRE construction loans is how are you coming at determining loan to value? Are you relying on the current loan to value or are you dealing with the after repaired value of the property so that you get under those L T V restrictions that both ten two thirty eight and ten two thirty two three provide. So if you're having to rely on the repaired value of the property to fall within those LTV limits, which is pretty common, the property right now might be worth $800,000 post construction, it's worth 1.4. So you can give a bigger loan to get that project done but that means that current L T V might be blown but the after repaired value loan to value ratio, that might actually fall within those limits that those code sections provide. So if you're relying on after repaired value, that's where those DRE construction loan restrictions come in, one of which it requires that the loan cannot be greater than two and a half million but there's a lot of steps to consider to get there. So I'd be happy to talk to you about those as well. If you had follow up questions

Kyle Niewoehner:

And just be clear, isn't that when you're required to use funds control

Melissa Martorella:

Or if it's greater than a hundred thousand dollars the holdback, then you have to use funds control? If it's less than, not necessarily, but I probably would anyways. Just for the DRE. Yeah.

Kyle Niewoehner:

Okay. Oh, and I think Carl's clarifying early cash flow support cover a deposit for special materials or mechanical electric equipment, partial payment up upfront to expedite the schedule. Yeah. Yeah. No, and that can definitely make sense. In certain circumstances. They need to pay for this stuff upfront to keep the project moving. Again, I think you just want to make sure that you're getting the documentation on those purchases and then making sure that they get delivered and everything. But yeah, that definitely makes sense in certain circumstances.

Melissa Martorella:

Awesome. And I think that's it and we have ended just before 12, so perfect hour for you guys. Okay. Thank you all for staying on and joining us. Again, if you have any questions, feel free to reach out to either Kyle or I, we'd be happy to answer any further questions you have about construction loans or anything else. Yeah, and look out for the follow-up email that will have a lot of information a link to the webinar, recording slides articles, et cetera. Thank you all.