Access to construction capital is starting to loosen up, but the process of structuring a construction loan and putting together a feasible capital stack has become trickier, according to panelists at AHF Live: The 2010 Affordable Housing Developers’ Summit on Nov. 4.

In high-demand Community Reinvestment Act (CRA) areas, construction financing never really went away. Developers working in major metros can shop a deal with the major CRA-motivated banks and get some very competitive rates and terms.

In secondary and tertiary markets, or in areas that developers are new to, finding construction debt is a taller order. The first step is to identify those institutions with the highest CRA needs.

“When we go into a community that we’re not as familiar with, we literally go to the FDIC Web site and pull up a market share report to see who has the most deposits in that community,” said Todd Sears, CFO of developer Herman & Kittle Properties.

But developers would do well to slow down in their search for a construction lender. Some direct equity investors—especially the large banks—demand that you use their construction loan product, and a lot of syndicators are developing their own loan products as well.

“You’ve got to be really careful about getting too far ahead of yourself with a construction lender,” said Sears. “You have to make sure it’s going to line up correctly with the equity investor.”

When the equity investor and lender are separate entities, there are other hurdles to consider. Most lenders are now requiring a much larger share of the equity pay-in up front.

“Be very cognizant of the equity pay-in requirements that your construction lender is going to require,” said Jeffrey Weiss of Hunt Capital Partners. “Make sure those are in line with what you’ve negotiated with your equity provider.”


Construction lenders are increasingly scrutinizing their borrowers’ financial statements and real estate-owned schedules to get a holistic view of a developer’s health. This heightened due diligence includes a checkup of a company’s entire portfolio, not just its tax credit deals.

But it’s not just the developer that’s getting heavily vetted. Counterparty risk has become a key word these days. Over the last few years, many equity investors have walked away from deals as the economy turned south. So, shell-shocked lenders aren’t just underwriting the borrower, they’re underwriting the investor as well.

“We are very concerned about counterparty risk, in fact we won’t do a transaction with a syndicator that doesn’t have an upper-tier investor,” said Richard Gerwitz, a managing director at Citi Community Capital. “We want to make sure that equity investor is willing and able to make those payments.”

Gap funds

Given the expiration of the Tax Credit Assistance Program, gap funding will be harder to come by next year. Still, there are a variety of soft funds out there, including the Federal Home Loan Bank’s Affordable Housing Program, Community Development Block Grants, brownfield credits, weatherization credits, tax-increment financing, and tax abatements, to name a few.

But developers must look at what those funds can bring to the table beyond just dollars, while weighing the true cost of all that free money.

“What I really encourage you to do is look at the qualified allocation plan and look at what points are given for bringing soft money to a deal,” said Gary Gorman, president of developer Gorman & Co. “That soft money can perform two functions—not just to fill in the gaps on the capital stack, but also give you more points in your application.”

Cobbling together several sources of soft funds can also reduce—and sometimes eliminate—the need for traditional debt on a deal, according to Lee Harris, president and CEO of Cohen-Esrey Real Estate Services.

But some soft money comes with strings attached that can heavily affect your operations. “Make sure you understand the requirements of that funding source and what it means to your deal,” said Harris. “If you have to deep-skew a large percentage of your rents, how does that work in the marketplace in which you’re dealing?”

Beyond operational restrictions, there may also be construction restrictions attached. Some soft money sources come with Davis-Bacon wage requirements, which can really eat into the construction budget.

“On an 85-unit rehab in Milwaukee with a total budget of about $8 million, it cost us just over $500,000 to comply with Davis-Bacon,” warned Gorman. “It’s not cheap. You’ve got to find out what that free money costs.”