Construction Financing: As Hard to Find as a Needle in a Haystack?


The stock market has reached record levels, and it looks like the Dodd-Frank Wall Street Reform and Consumer Protection Act will likely be amended. But it’s not all good news. Current weakness in the residential rental and condominium markets, coupled with e-commerce’s effect on retail, has significantly reduced the availability of construction financing for developers with certain asset classes.

Lenders haven’t forgotten the recession of 2008, and Tier 1 capital requirements have made it doubly difficulty to secure construction financing from traditional banking sources.

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“The current lack of availability for construction financing is due, in part, to concerns about where we are in the current cyclelenders are naturally being more thoughtful about who and how they finance in this niche industry,” said Mark Melchione, an executive vice president of commercial real estate lending at People’s United Bank.

“Moreover, many lenders who have a greater concentration in commercial real estate finance, either as a percentage of their Tier 1 capital and/or size of their construction loan portfolio, have tapped the brakes or in some cases applied both feet to this loan format. At People’s we don’t have these constraints although we are being very selective regarding whom we engage with to provide construction financing.”

Financing is available for strong sponsors and well-positioned projects.

“Leumi continues to finance construction for multifamily rentals, residential condominium projects and office-retail developments, with significant preleasing in the New York metropolitan area,” said Joseph Sciarillo, the executive vice president of national real estate lending at Bank Leumi.

“The bank is always sponsor-driven, and loans are restricted to well-capitalized developers with long track records and organization. On the residential side, the bank targets   the middle-tier of the market and avoids high-end condo and rental projects, preferring that product is sold or leased to local families and professionals, not investors, high-end purchasers or foreign buyers.”

James Carpenter, the senior executive vice president and chief lending officer for New York Community Bank, had similar views. “Construction financing continues to be a challenge for lenders, given underwriting considerations that evaluate anticipated market conditions at the projected completion date of the project,” he said. “The outlook for increased interest rates over the near term, coupled with the number of units coming online in certain markets, gives us pause for decreasing our exposure to construction lending at this time.”

“Now more than ever, we are sticking to the fundamental lending philosophy regarding construction financing,” said Paulo Garcia, the New York regional manager at Mercantil Bank. “We are evaluating all opportunities and staying away from speculative transactions. We have and continue to entertain construction for well-positioned retail with quality anchor tenants as well as financing for residential rental projects. We are cognizant of the potential difficulties in construction financing of condominiums, nevertheless, if the project makes sense, we may pursue.”

While many lenders are holding back, two Arkansas-based commercial banksBank of the Ozarks and Centennial Bankare bullish on construction lending. Nevertheless, both financial institutions are limiting the amount of financing to 50 to 60 percent of the total cost of a project. As reported in a Bank of Ozarks investor presentation issued earlier this year, as of Dec. 31, 2016, the bank’s average loan was 48 percent loan-to-cost and 42 percent loan-to-appraised-value, which is significantly lower than their underwriting requirements in 2005 to 2007.  

“Limitation in financing is also based on the new Basel III guidelines that require increased borrower equity for construction loans to avoid the loan being treated as a High Volatility Commercial Real Estate transaction and higher capital requirements for banks against construction loans,” Carpenter said. “This has created an opportunity for nonbank, nontraditional lenders to enter the market and fill a void being created as banks become less of a market participant”.

Ronnie Levine, a managing director at Meridian Capital Group, agreed. “The banks remain highly selective in providing construction financing” he said. “As a result, we have been placing more debt with nonbank lenders to fill the void in the market.”

Not surprisingly, each and every week new nonbank lenders are entering the arena to provide creative construction, mezzanine and preferred equity.

“Alternative lenders have become very smart and flexible and understand more unique projects and the complicated issues that are involved in these projects,” said Jeffrey Lenobel, the chairman of the real estate group at Schulte Roth Zabel. “For example, The Georgetown Company [is] creating a first-class, modern office space in a building like 787 11th Avenue in the rapidly transforming Hell’s Kitchen [neighborhood]. Blackstone Group  [the lender, understood the project] and was able to navigate the complexity of the transaction.”

Michael Stoler is a managing director at Madison Realty Capital and is the host of the Stoler Report-New York’s Business Report.