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Monday, June 23, 2008

Daily Observations - Loan to Cost

Today's observation has to do with more changes that we are seeing as lenders continue to tighten loan parameters. Loan to cost is that ratio of the new loan to the total cost of the project. Three to six months ago loan to cost for a good project would be between 80 to 90% loan to cost. So the theory would be that if the developer / borrower owned the land free and clear we would be able to get them a construction loan with no out of pocket funds. This would work with a loan to cost around 85% on average.

We did a lot of construction deals this way, land free and clear, equity in the soft costs therefore no money would be needed to close the construction loan.

Fast forward to today. Lenders are not offering 85 to 90% loan to cost on new construction anymore they are offering between 65 and 75% loan to cost. This translates to borrowers having to put additional funds into construction deals and not just relying on the value of the land and the soft costs any more. This is why the liquidity of the borrower has become so important to the overall financing plan. Loan to cost is only applicable to Construction Loan funding.

Don't confuse loan to cost to loan to value - they are not related other than there is a ratio. Loan to value reflects down payment while loan to cost reflect building expenditures as compared to the overall finished construction value.

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