Construction financing on residential or commercial property can be placed in first, second, or even third mortgage position, depending on the project and the property. But anytime there is a first mortgage in place, the primary source for construction loans comes from private second mortgages.
There are two main reasons for this.
First, banks and most institutional lenders will not provide a construction loan in a second mortgage position. So if you have debt outstanding against the property where construction financing will be required and you can’t pay off the debt before funds for building are going to be required, then a bank loan is not going to be a funding option.
Second, it may advantageous from a rate and/or prepayment penalty position to leave a first mortgage in place during the time of construction and then refinance the first and second mortgage once the project is completed. Under this scenario, its all about whether or not refinancing the first is going to be cheaper than getting a new first with draws for construction.
Building still further on this last point, there are also construction financing programs that will not allow refinancing of a first mortgage due to the fact that all funds are to be used for construction purposes, so a second mortgage option becomes somewhat of a necessity where debt financing is required.
In addition to being able to maintain a lower existing rate on the first, and avoid prepayment penalties that can occur from refinancing, a private second for construction capital has some other real and tangible benefits to consider over a bank or institutional mortgage facility.
First of all, the financing can typically be arranged in a much shorter time period with few conditions to fund written into the loan agreement.
Second, the draw administration process on average is much more straight forward than what you will typically find with a bank construction loan.
This means draws occurring more often on time and within the budgeted amounts provided that basic completion milestones have been met. Keeping a construction cash flow on track can be no small feat, so having a borrower friendly draw process can definitely be a major benefit.
At the end of the construction process, most private seconds for building will allow for repayment of the funds without penalty, making it cost effective to refinance the outstanding mortgages into a longer term take out, or to repay all funds outstanding through a property sale.
In many cases, the added benefits of a private 2nd mortgage can easily out weigh the added cost of capital that comes from a sub prime mortgage registered in second position.
If you’re looking for construction financing and already have a first mortgage in place on the property, then I suggest you give me a call to discuss your private second mortgage funding options.