Commercial construction financing in tight economic times

 

Commercial construction financing and commercial real estate loans are presenting a number of new challenges for commercial borrowers. As a result, small business owners should anticipate that they are likely to encounter some new but generally avoidable problems when they are seeking working capital funding and commercial mortgages.

 

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 characterised by even more uncertainties in the economy. Prior standards for commercial mortgages are likely to change suddenly and with little advance notice by lenders if the current financial turmoil continues.

 

This article will evaluate why commercial construction loans have become harder to obtain and will discuss possible commercial finance funding solutions. It is much more likely that borrowers will need to look beyond their local area for business financing help because of current economic uncertainties in combination with less capital available for commercial mortgages in general and construction financing in particular.

 

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) a substantial risk factor is the possibility for contractor liens; and

(3) many commercial construction projects take more time to complete than originally projected and/or exceed initial cost estimates.

 

Due to widespread business losses in the construction industry, the risk of contractor liens is a major concern for commercial lenders. 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.

 

Although there are significant regional variations, we are witnessing decreases in both commercial and residential property values throughout the Australia for the first time in several years. 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.

 

Given the difficulty of arranging financing based on location, using non-local lenders can be a practical solution for commercial financing involving both existing commercial properties and new construction. Small business owners should seek straightforward advice from a commercial loans expert who can provide effective strategies for changing and difficult business finance funding situations, especially in light of the challenging commercial borrowing climate prevailing currently.