Commercial Construction Financing Explained

CRE Finance Podcast with Todd Tretsky

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Today we're going to be speaking about commercial construction financing. There are two very important terms we'll be speaking about: loan to cost and total cost.

The total costs on a commercial construction loan include:

• land acquisition
• hard costs
• soft costs
• contingency reserve (5% or less)

So, then what is the loan to cost? It is your total cost divided by the construction loan amount, which is then multiplied by 100.

For an example, let's say a developer in Miami wants to construct an office building. He needs $3.2 million loaned. His total costs are $3.8 million. When we divide 3.2 by 3.8 and multiply it by 100, we then get a cost ratio of 84. This is a little too high for industry standards, and most commercial lenders want to see a ratio of 80% or less because the developer has 20% equity in the project. This puts some skin in the game for them.

The best way to guide a developer to get to the total cost of 20% or more is to have the developer acquire the land. The developer should also have the architectural and engineering plans ready in order to get into a good equity situation.

We have seen people take loans with less than 20% equity, but it's not terribly common.

Here at CRE we specialize in commercial construction loans, and if you have any questions or concerns for us, please don't hesitate to contact us!