Even the most promising and profitable real estate development project takes a substantial investment of time and money. Most developers rely on acquisition and development loans to get those projects underway, whether because access to cash is limited or simply to preserve cash flow and manage risk in the development process.
While acquisition and development loans are an indispensable tool for many development projects, not all construction loans are created equal. Choosing the right loan and understanding the fine print in your loan agreement can make the difference between a successful project and unexpected obstacles and expenses.
The commercial attorneys in our firm have the knowledge and experience necessary to help you avoid pitfalls, identify the best loan for your project, and fully understand the risks and obligations you are taking on.
What is an Acquisition and Development Loan?
Acquisition and development loans are commonly used to purchase property and then make the improvements and subdivisions necessary to create construction-ready parcels. Typically, a portion of the proceeds of the loan are used to purchase the undeveloped land, and the bulk of the remainder for improvements such as subdivision of lots, grading, road construction, and installation of sewer lines. The loan should also allow for an adequate contingency reserve.
The standard acquisition and development loan will not provide full financing for your project. In most cases, the developer is expected to contribute a substantial down payment, preferably in cash. Although an acquisition and development loan may be approved in situations where the developer uses collateral–such as a mortgage on existing property to finance the project– the percentage of funding the lender will contribute is usually lower in that scenario.
The amount of financing available may also be impacted by the location of the land, the zoning, the local economy and even the political climate of the surrounding area. In some cases, it may be to the developer’s advantage to pursue zoning changes before attempting to secure an acquisition and development loan.
Collateral for an Acquisition and Development Loan
An acquisition and development loan is secured by the property to be purchased and developed. However, the lender will consider more than the value of the land itself. Some key considerations include:
- The quick sale value of the land, in case the project is unsuccessful or abandoned
- The availability of additional collateral for the loan
- The developer’s cash flow and balance sheet
- The developer’s exit plan
Creating an Exit Plan
In addition to inherent characteristics such as location, the lender will consider the developer’s exit strategy. The more established the developer is and the greater degree to which the company can show a history of profitable development projects, the more willing lenders will typically be to take some risk on a project. A relatively new developer or a developer venturing into new territory must be able to present a detailed, viable plan that gives lenders confidence in the project’s timeline and profitability.
Working with an experienced acquisition and development loan attorney gives you an edge in this arena, as the attorney will know exactly what type of information a lender will be most interested in and how to present it in the most persuasive manner.
Legal Considerations in Negotiating Acquisition and Development Loans
Because of the complex and relatively high-risk nature of land development, the standard acquisition and development loan contains many provisions to protect the lender that may impact the developer’s options and risk.
For example, the loan agreement may require the developer to agree to assume the loan if the developed property does not sell, and a minimum payoff may be required before the lender can sell developed parcels free of the lender’s lien. It is critical that a developer taking on this type of debt understands exactly what his future obligations will be and how the loan will impact his ability to make sales as portions of the project are completed.
Talk to an Experienced Acquisition and Development Loan Attorney
Your development project is too important to leave to chance. The experienced attorneys at KPPB can assist you in identifying the right loan product for your project and then scrutinizing the fine print and negotiating the terms of your loan. You are investing significant time and money in planning and executing your development project, and cannot afford to take loan terms on faith or sign a form agreement without truly understanding the impact its terms may have on your project. Contact KPPB LAW for more information.