A construction line won’t help you complete a project if you can’t access it. Banks are very careful in approving and disbursing construction lines of credit. Each advance must meet certain criteria. If it doesn’t, the bank will not release the funds. This can cause major delays in completing your project.
Construction Loan Agreement
At closing, you will sign a number of loan documents including a “Construction Loan Agreement.” This document contains a section outlining the conditions to disburse funds under the line. It is important that your attorney reviews this document prior to closing so you understand exactly what is required to access the money. Once the final document is signed, you have to abide by the terms within. It will also have the budget attached as an exhibit. The budget will specify the amount of each advance.
Construction loans are disbursed for work-in-place. The contractors perform the work and provide invoices to be paid. The bank wants to see that the work has been completed properly. The contractor submits the request for payment on the American Institute of Architects (AIA) form G-702 and G-703. This is a breakdown of the costs excluding retainage. Retainage describes a portion of funds held back, typically 5 to 10 percent, to cover cost overruns. The bank will send an inspector to examine the work and make sure that the current request agrees with the budget.
When a bank closes a construction loan, it takes a title-insured mortgage as collateral. Each time you request an advance, the bank orders a “Title Bringdown.” The title company searches your name and the collateral for judgments and mechanics liens. A contractor places a mechanics lien on your property if you owe him for completed work. This lien supersedes the bank’s mortgage, making it second priority on the collateral. The bank will not disburse any funds until the lien has been released.
Inspections and clear title are standard procedure on construction loan disbursements. Any other conditions will be described in the loan agreement. For example, you can be limited to one draw per month. You can be required to maintain an interest reserve account with the bank. You will also be responsible for expenses incurred like the title bringdown or inspection. You’ll have to come out of pocket for these items as you won’t be allowed to use the construction line unless specifically noted in the budget.