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Understanding The One-Time Close Construction Permanent Loan & Its Benefits
By Joel S. Pate
As I speak to mortgage brokers all over the country, the one question I am asked most often is, "How Can I Become a Construction Perm Expert in My Market?"
To become a CP Expert, you must first develop a true understanding of a One-Time Close Construction Perm Loan and the compelling reasons builders and borrowers would choose this program.
Let's start by discussing the old model first. The typical process of building a house involves the builder securing a construction loan from the bank to pay for the construction of the house. When the house is complete the buyer then works with a mortgage company to put final financing down on the house. With this process there are two closings and two sets of closing costs.
The One Time Close Construction Permanent Loan is the combination of interim financing and final financing on a house. Thus, with the one time close, everything is completed upfront and the buyer only has to pay closing costs once.
So how does this benefit the builder?
As a former homebuilder, I have firsthand knowledge of the complexity of the business. Regardless of their market share, all builders must become astute in a myriad of roles to become successful. They must be land developers, construction schedulers, code enforcers, be able to make architectural decisions, deal with inspectors, become finance experts, engaging salesmen and ultimately be willing and able to place their entire personal financial well being on the line as they borrow money from the bank to build the homes.
Why? In a typical builder's financial paradigm, unless he is independently wealthy, the builder must secure a construction loan in order to have the money to build the house. However, the bank will only loan them 80% of the cost to build a pre-sale home. So if a home sells for $300K and cost $240K, the builder must still have $48K in cash in order to build the home because the bank will only loan them around $200K.
Therefore, for a builder to get 10 houses going, the builder must have nearly $500K of his own capital in the business just to cover the difference between what the bank will loan him and the cost of the house. Additionally, the builder must have even more capital to level out his own cash flow as draws always lag the subcontractor and vendor payment demands.
Add to this the fact that the builder has had to personally guaranty each and every loan from the bank, and you have the making of what Lee Evans, the nation's first consultant to the building industry said "If a builder stays in this business long enough, he will go broke."
Additionally, there are drawbacks for the borrower in having the builder finance construction:
* The builder has to borrow in the commercial loan market, and therefore may pay more for the funds than the borrower--and will typically pass through these costs.
* The builder must include the financing cost in the price of the house that is quoted to the borrower before the construction period is known. The builder's inclination, therefore, is to assume a longer period (and therefore a higher financing cost) than is usually the case.
* The builder must have title to the land to obtain construction financing, and switching title is costly in some states.
* A builder who owns the property and is on the hook for the loan may be reluctant to make any modifications in the design that would negatively affect its marketability in the event that the deal with the borrower falls through.
* The builder's funds are tied up which can potentially increase the cost of house
* Two closings and two sets of closing costs will most often result in higher costs for the borrower.
Some builders won't initially like the idea completely restructuring the way they are accustomed to doing business and thus it will be up to you to convince them that doing so will be more profitable, easier on both parties, and a safer bet.
For the savvy broker that can learn the process of and the benefits that are inherit in the One Time Close Construction Perm Loan, and learn to communicate these benefits to the builders and borrowers in your area, the sky is the limit on your income potential.
Tune in next week, when we discuss "knowing the programs", the next phase necessary in becoming a CP Loan Expert.
Joel S. Pate, a dedicated entrepreneur, has spent more than two decades in the building, mortgage, and real estate industries and has been involved in over $100 million in construction loans and over $1.3 billion of residential lending. As the CP loan expert columnist, he provides straightforward, unbiased advice about every aspect of construction permanent lending.
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