Twelve months ago, I reflected on the difficulties in investing in CRE due to the uncertainty in the market and current status of the T-bill in my white paper “Maximizing... Read More
The Basics of Walking with the Bank Inspector
Every loan-funded construction project will require a number of periodic onsite inspections. As the lending institution provides the funds for the construction project, it is in its utmost interest to ensure that the funds are used according to the project plan and that the work is progressing at the projected pace.
Inspections are conducted in order to record the project’s progress and either provide recommendations for further funding or reveal irregularities or deviations from the project’s plan. The primary role of an inspection report is to answer two main questions: Is the project on schedule and are there sufficient funds left to complete the project? Most commonly, the inspector is a third-party representative hired by the lending institution.
The periodic disbursal of funds through draw requests is dependent on inspections, as the lender wants proof of work completed and proof of materials purchased and stored before approving further funding. On-site inspections are not only designed to protect the bank, but also the loanee, as it is also in their best interest to determine that the contractor is conducting the work at the scheduled pace and the desired level of quality.
Types of inspections
Inspections are tied to the various stages of the construction project, and accordingly, we can single out three specific types of inspections.
● Initial inspection
The initial on-site inspection is conducted prior to the commencement of the planned construction works. It serves to determine the condition of the construction site and to provide a reference point for future progress inspections.
● Draw inspections
Before a draw request is approved, the lender will require an on-site inspection in order to determine that the previously disbursed funds have been used in accordance with the project plan and the budget. Upon the inspection, the inspector creates a report containing a detailed account of the percentage of completed work and the expenditure of funds by each line item. It is important to note that the percentage of completion is not directly dependent upon the amount of expended funds but upon the inspector’s assessment of progress. Lending institutions can vary significantly in their treatment of stored materials and deposits, and it is essential to be informed on what is the preferred way of handling said items.
● Final inspection
Once the construction work is completed, the lender will require the final on-site inspection to determine that the project is indeed complete and that there is no further work necessary, in accordance with the project’s plan. The release of retainage is usually dependent on the findings of the final inspection.
When submitting a draw request, the loanee provides a status report on the current progress of the project. The role of an on-site inspector is to determine whether the information provided in the report corresponds with the actual state of work items and materials at the construction site. Most commonly, the inspection report will include the following:
● A detailed account of the percentage of completion of all line items or a stage of construction
● A detailed analysis of cost statements
● Photographic evidence of on-site conditions, including stored materials and the current state of the construction
● A review of any existing change orders
● Any inquiries made to the lender by the loanee or the contractor
Depending on the nature and the scope of the project, the report may include additional documentation, such as various permits, taxes, or insurances.
On-site inspections are an essential part of a construction loan. While the contractors consider them bothersome, as they focus on their competence and quality of work, the loanee should not view them in a negative light. After all, it is in everyone’s best interest that the construction project runs smoothly, and the assurance provided by periodic inspections can only work towards solidifying a quality collaboration between all involved parties.
Photo by Fancycrave on Unsplash