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Here’s the breakdown of how senior construction loans work for a multifamily development project.

Unlike an acquisition loan for an existing property, the senior construction loan isn't drawn all at once at the beginning. This is known as a staggered disbursement.

Instead, the loan is drawn down to pay for the costs incurred over the previous month. This approach benefits the borrower by incurring interest costs only on the funds they actually need to draw down.

For the lender, this method ensures they only disburse funds for which there's existing collateral, like purchased land or completed construction work, where they can place a lien.

So how is the construction loan calculated?

The Loan-to-Cost (LTC) ratio represents the percentage of the total project cost that a lender is willing to finance. Understanding the LTC ratio helps both borrowers and lenders manage financial expectations and project risks effectively.

• Calculated as: LTC Ratio = (Loan Amount / Total Project Cost) * 100.

• Example: For a $10 million project, a $7 million loan results in an LTC ratio of 70%.

Typical LTC Ratios:

• Lenders usually offer LTC ratios between 55% and 75%.

• A higher LTC ratio means the borrower needs to contribute less equity upfront.

Construction Costs:

• Direct Construction Costs: These include labor, materials, and contractor fees.

• Soft Costs: These might include architectural and engineering fees, permits, and insurance.

• Exclusions: Certain fees like loan fees for a mezzanine loan.

Not all development costs are eligible for funding under the Senior Loan. For example, loan fees for a Mezzanine loan aren't covered.

Senior lenders only lend against items that have potential liquidation value in case of foreclosure. If a Senior Lender has to foreclose on a development project, they can't claim the origination costs paid to another lender, as these don't provide collateral value that can be liquidated.

Now let’s talk about the interest component. Here are 2 methods you should understand:

• Accruing Interest: During construction, interest on the loan accrues rather than being paid monthly. This means the interest is added to the loan balance over time.

• Capitalized Interest: The accumulating interest is tracked and added to the total loan amount, making it part of the overall debt you owe once the project is completed.

The reason for this is simple: the asset that will generate the funds to pay the interest doesn't exist yet.

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