Question about delinquent borrowers on construction loans

I’ve come across a builder who is building 2 homes for investors. The investors took out the construction loans but have not been able to make any interest payments. The builder has made a couple of payments to get the homes started. The builder thought he had worked something out where the investors would repay him but it is becoming increasingly clear that they won’t be able to pay him. They have told the builder they want out. The builder is very concerned because he doesn’t have the cash available to continue making interest payments. The investors have resigned themselves to the fact that the bank will just have to foreclose.

Is there an opportunity here? The homes were appraised at approximately $650,000 each and will cost around $400,000 each to build. The builder has made about $20,000 in interest payments on each home. These are construction to perm loans.

What are the options for the bank in this case? How can someone like myself help in this situation? Perhaps we can avoid foreclosure on the investors and have an opportunity to make some money

I have come across this scenario in the past, however, I did the financing for an owner-occupant. There are very few construction lenders who will help you with financing on an investment property. However, if you can find a lender, they will look for a couple things in particular, and if satisfactory, they will finance the construction from the point it was left off to completion.

  1. The lender will want to know what % complete the house is. If the house is > 50% complete, you may have trouble finding a lender to do the financing for you.

  2. Will the same builder be completing the project?

  3. Are there any unpaid bills or liens resulting from the previous work? Everything must be paid up to the point where construction was halted.

And of course, besides these factors you will have to qualify as a borrower.

FYI- Most construction loans also will allow you to finance the interest payments during the construction phase.

What about if you did a subject 2 type of scenario? I guess the biggest question is are the loans a 1X close or a 2X close (AKA interim loan.) If they are a 1X close a subject 2 scenario should work, but the NOO construction lenders I use have a 6-12 month Hard pre-pay from date of CO. So you would need to read the Note that was signed at closing to find out what it would cost you to sell within that time period. If they are a 2X close then the loans are probably for 12 months or less anyway. So what they could do is submit purchase contracts to the current investors setting the purchase price at whatever the pay-offs will be at completion. If they are paying the interest then the loan amounts won’t change during construction. The buyer could contribute monthly to the sellers funds that could be used as earnest money which in turn could be used by the sellers to make the interest payments. This way when it comes time to close on the permanents the LTV is lower because of all the earnest money. Keep in mind though the interest payments monthly on those house will get steep fast. I would make sure top do your research on the builder because the longer you have to hold these properties during construction the less profit you will make. By the time these properties are fully drawn your per diem holding costs are over $200.00 per day.

As RJ said you will be hard pressed to find a lender who will outright allow you to refinance or purchase these houses in their current form. Because construction has started lenders are very leery of taking the risk involved in this type of transaction. You will have to track down every person or business who has touched the property and have them sign a lien release. All the way down to people who prepped the lot. There is a lot of money to be made her, but rest assured it will not be passive income. You will be working non-stop until these houses are sold. You might consider hard money. Based on the numbers you posted you will be at 61% LTV so if you could find a lender that will go to 70% ARV that would leave you 5-6 percent to roll in for payments after the lender subtracted their 3-4 point charge for closing costs, but more than enought to carry the debt on these houses for at least 12 months. Tell the builder that he can collect his 20K once the properties are sold. Which is more than he will have now if the properties are foreclosed on. Good luck with your project.

Thanks for the great advice. Hard money looks like it may be the best option. The properties are at the foundation stage of construction. How would it work? Would the construction lender just allow me to pay off their borrower’s loan early? Are there any customary pre-payment fees when paying off a construction loan early?

It depends on the lender and the type of loans that they have. Did the investors go to a local bank? Or was it a large National lender? The pay-off on the loans can’t be too high if they are only at the foundation stage. Has the builder ordered the materials package yet? If so he should be getting very antsy right about now. Ask the current investors for the note on each property. That will tell you everything you need to know about the type of loans they have. Just make sure to do your research on the builder. Some builders only work at one speed. Their own! And at hard money rates you want to be sure that this guy is gonna be out there everyday busting his hump to get these houses done. Also, as soon as they are yours you need to hire a realtor familiar with the area to start marketing the properties immediately. This way you may have buyers lined up ready to go as soon as you have CO.