The pre-closing plan and cost review is the most cost-effective form of construction risk management available to a lender, more cost-effective than the most thorough monitoring program during construction, because problems identified before a loan funds can be addressed as conditions of closing, while problems discovered during construction require negotiation, documentation, and often compromise to resolve. The review costs a fraction of a percent of the loan amount and has the potential to prevent losses that dwarf its cost.
Despite this, a meaningful share of community bank and credit union construction loans close without independent pre-closing review of the construction plans and budget. Lenders who skip this step typically do so because the borrower is well-known, the project is within a familiar product type, or the timeline pressure to close is real. Each of these rationales is understandable. None of them holds up against a construction loan that closes with a budget shortfall or a schedule that cannot be achieved.
What a Pre-Closing Review Examines
A pre-closing plan and cost review, conducted by an independent construction professional before the loan closes, evaluates the construction documents and budget against the following questions: Is the budget adequate to complete the project as designed? Is the construction schedule achievable? Are the plans and specifications sufficiently complete to support accurate bidding and construction? Are there design gaps or coordination issues that will likely generate costly change orders during construction?
Budget adequacy. The most common finding in pre-closing plan and cost reviews is a budget that is insufficient to complete the project. Budget shortfalls arise from multiple sources: incomplete plans that were bid without all design decisions resolved, general contractor proposals that excluded scope the lender assumed was included, allowances that are below current market cost for the specified finishes, and contingency amounts that are inadequate for the project’s complexity and design maturity.
A construction professional reviewing the budget before closing can identify these shortfalls by comparing the line-item budget against market cost data for the specific project type and location. A $220 per square foot hard cost budget for a wood-frame multifamily project in Seattle is a signal, to an experienced reviewer who knows that Seattle multifamily hard costs run $280 to $340 per square foot in the current environment, that the budget will be exhausted before the project is complete.
Schedule achievability. Construction schedules presented at loan closing are frequently optimistic. Permit timelines, subcontractor availability, material lead times, and weather contingency are all commonly underestimated in borrower-submitted schedules. A reviewer who knows the local permitting environment, the current subcontractor market in the project’s location, and the realistic timelines for major material procurement can assess whether the proposed schedule is achievable or whether the interest reserve has been sized for a delivery date that the project cannot realistically hit.
Plan completeness. Construction loans are sometimes structured before the construction documents are fully complete, a practical reality when the closing timeline and the design timeline don’t align. When plans are less than fully complete at closing, the lender is approving a budget without complete information about what the budget must cover. Pre-closing review should assess the design maturity of the plans and flag the areas where incomplete design creates cost uncertainty that the contingency may not be adequate to absorb.
What Lenders Can Do With Pre-Closing Review Findings
The value of identifying budget or schedule problems before closing is that the lender has leverage to require corrections as conditions of closing. A lender who discovers at closing review that the budget is $800,000 short of what the project will cost to complete can require that the borrower increase the project equity by $800,000 before the loan funds, a clear condition that protects the lender’s collateral position.
A lender who discovers the same budget shortfall six months into construction, when $3 million has been disbursed and the project is 40% complete, has a much harder problem. Requiring additional equity at that stage requires the borrower to either find additional capital, accept a loan modification on terms that may not be acceptable to them, or default. The options are all more expensive, in time, legal fees, and potential loss, than a condition of closing would have been.
Common conditions that flow from pre-closing plan and cost review findings include: required increases to the project equity or contingency, required completion of specific design decisions before first draw, required bonding or additional insurance for specific risk areas, and required revision of the construction schedule to incorporate realistic timelines for identified schedule risk factors.
When Pre-Closing Review Is Most Critical
Pre-closing review is most critical for: first-time borrowers with no track record with the lender; projects where the lender has limited familiarity with the product type or market; projects where the borrower’s proposed budget is notably below comparable market cost; and projects with unusual complexity, mixed-use, historic rehabilitation, data centers, or other specialty building types where the construction professional reviewing the plans needs specific knowledge of those building types.
For experienced borrowers with strong track records and projects within well-understood product types, the pre-closing review may confirm the budget adequacy that experience suggested, but that confirmation has value, and finding a problem in a familiar context is more likely to happen when someone is specifically looking.
Pre-closing construction loan review conducted by experienced construction professionals, rather than by underwriters applying checklist criteria, provides lenders with a substantive assessment of budget adequacy, schedule achievability, and contractor qualification that is more meaningful than any amount of document collection without professional construction judgment.
Innergy Integral provides these services in Dallas, TX and across our six-state footprint.
Related: Construction Loan Monitoring · Plan and Cost Review · Lender Advisory Services · Construction Loan Monitoring Guide
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