Land development loans provide financing for the purchase of raw land, as well as its development for future construction or sale. Unlike residential and commercial construction, the goal of land development is not to present a finished piece of real estate, but to prepare it for further construction. The development of a lot includes improvements of the land itself, as well as the creation or the improvement of the surrounding infrastructure (power and water supply, plumbing, sewage, etc.) in order to make the site construction-ready.
Types of Land Development Loans
A land development loan is generally offered in two forms:
- A development loan – a fairly straight-forward agreement in which the borrower repays the loan with interest in periodic installments.
- A secured purchase loan – gives the lender an additional protection in the form of an asset serving as collateral, and it typically comes with a lower interest rate for the borrower.
If a piece of land is already developed or ready for further development, but needs improvements to the surrounding infrastructure, the borrower can also opt for an acquisition and development loan (often shortened to A&D.) This type of loan typically covers the purchase of land and any improvements needed prior to the development stage.
The origination of a development loan is a multi-step process that takes into account all actions, from the application submission down to the ultimate disbursal of funds, and requires a detailed investigation into the qualifications and backgrounds of all related parties. It is important to keep in mind that the spread between the size of the development loan and the estimated market value should be sufficient enough to allow for any unforeseen expenditures. Let’s take a look at some of the key steps in the application review process.
An investigation into the borrower will include a look into their reputation and their financial stability. The required documentation can vary significantly between lenders, as well as between different states. It most commonly includes a property title search and mortgage insurance. In the case of unsecured loans, the lender may look for alternative means of repayment aside from the expected return from the development.
The general contractor involved with the project will also be required to provide extensive documentation related to their reputation, previous experience, and financial standing . This body of information serves to ensure that the contractor has a proven track record of successfully completing projects similar to the project being reviewed.
Before a land development loan is approved, the lender will assess the project’s feasibility, which includes the assessment of the market value of the land, both before and after the planned property improvements. The final amount of loaned funds will be determined based on assessments made on an “as is” and “as completed” basis.
Due to the variety of land development types and purposes, as well as the complexity of local and state regulations, the assessment process is greatly dependent on the individual characteristics of a piece of land and the planned development of that property. This is why it is extremely important that the loan origination process is supervised by a professional with deep experience and an understanding of all necessary steps leading to a project’s approval. Employing the services of a dedicated construction loan admin will ensure that all bases are covered, and will give an application the best chance for approval.
About Contract Simply
Contract Simply provides process automation and construction lending software to mitigate risk in construction loans. By auto-reading documents, coordinating approvals, and tracking payments, our loan monitoring software creates efficiencies and identifies opportunities to limit exposure for construction lenders and borrowers. Built in Austin, Contract Simply’s award-winning software cuts days from the construction back-office operations while ensuring compliance and reduced liability for everyone involved.