Construction loan
A construction loan is an extension of credit used to finance the construction or renovation of non-one-to-four-family properties for owner occupancy, lease or sale, covering apartments, offices, retail, hotels, industrial and mixed-use projects. The OCC Comptroller's Handbook for Commercial Real Estate Lending treats commercial construction loans on this basis, distinct from one-to-four-family residential construction lending.
Construction loan use on bank CRE desks
CRE desks underwrite construction facilities as loans that create collateral during the draw period, with repayment dependent on completion and then on sale, refinance or stabilised cash flow. OCC guidance requires prudent underwriting to consider the source and timing of repayment and to determine whether projected net operating income of the completed project supports expected value upon completion. Policies typically set maximum loan-to-cost and loan-to-value ratios, hard-equity requirements, disbursement controls that match draws to verified work, and interest-reserve rules. The sponsor or guarantor's global cash flow and liquidity are assessed because incomplete projects usually generate little operating income.
Permanent or take-out commitments, when present, may refinance the construction loan after completion and often lease-up. Supervisory LTV limits under the Interagency Guidelines set an 80 percent ceiling for commercial, multifamily and other nonresidential construction, with disbursements limited to actual construction outlays.
Appraisal premises and administration
Construction appraisals must include current as-is market value and typically also prospective as-complete and as-stabilised values. As-complete value is estimated as of expected development completion; as-stabilised value is estimated as of projected stabilised occupancy after a reasonable lease-up period. Credit administration focuses on budget balance, change orders, inspection before advances, lien waivers and remaining-to-complete funding adequacy. OCC policy expectations include confirming that construction draws are commensurate with verified improvements and that sufficient funds remain to complete the project.
Interest reserves may be budgeted inside the facility or funded by the borrower. Where the bank must fund interest, the loan should remain within appropriate loan-to-cost and loan-to-value limits.
Construction lending versus project finance
A CRE construction loan is usually secured on a real-estate project owned by a borrower or special-purpose entity and may carry full or partial recourse to sponsors. Project-finance construction risk sits inside a limited-recourse package repaid from project contracts and cash flows, often with completion support that falls away after commercial operation. Both use draw controls and contingency, but the security package, offtake arrangements and post-completion recourse differ. Desks should not equate a balance-sheet CRE construction facility with an Arrangement-style project-finance construction phase without checking recourse and cash-flow architecture.