Kelly McDonald: Drawing Up A Winning Draw Schedule
The process for receiving a construction loan can often be tricky for investors and borrowers alike. That’s why at RealtyShares we’ve developed a platform with robust protections for our esteemed investors, helping to ensure that their investments remain as industrious and secure as possible. We do this while also striving to be the fastest provider of real estate capital for our borrowers. At the forefront of these measures is our loan draw process.
What is a loan draw?
A loan draw is a process for distributing funds from a loan to pay for material and construction costs.
To illustrate, let’s say a borrower is buying a house for $300,000 with plans to put $100,000 worth of renovations in it. RealtyShares will provide up to 90 percent of the property purchase price and 100 percent of the renovation costs, but the lendee must complete each pre-determined project phase before getting reimbursed for renovations.
To receive those rehab repayments, the borrower produces a draw schedule for a project based on the cost and scope of the planned renovations. Next, the borrower usually sets aside several payment phases to establish repayment checkpoints. So for a typical 12-month loan, a smaller $10,000 project usually merits one payment phase, while a larger $100,000 project might justify two to five phases.
At the end of each phase, the borrower is responsible for compiling receipts, filling out a report and submitting an appointment request for a third-party inspector to examine the property and make sure the borrower has completed the promised renovations, and that all the materials paid for with the loan are actually in the home.
How does this process help protect investments?
The goal here is to assure investors that the promised work is being done properly and expediently to “substantial completion” — so cabinets aren’t sitting on the floor, but are actually hung on a wall, for example. After this inspection is complete, the inspection company sends our residential debt team a report. If the inspection passes muster, only then will we transfer funding to the borrower from an escrow account containing the lender’s capital.
Through this system, borrowers must have the cash available for the initial project phase to demonstrate their commitment to completing a renovation. (In our previous example, the borrower would most likely need $40,000 upfront: $30K for 10 percent of the property purchase and about $10K — 10 percent — of the renovation costs to complete an initial project.)
Usually, investors see a borrower complete a percentage of the work before requesting a draw. Only then will they have access to the first payment phase, helping ensure that investments are protected from any borrowers who fail to follow through on the renovations.
What about borrowers?
This means that, for borrowers, it is especially important to keep all receipts and invoices for building materials, labor and all other expenses while renovating so that the third-party inspection goes smoothly. On top of that, customers must be thorough when completing the necessary paperwork, or else risk creating delays in receiving their money on time.
Finally, it is in a borrower’s best interest to plan out the payment phases for their loan draws carefully. This should help the borrower appear trustworthy to the other parties and help avoid extraneous fees associated with each construction phase.
Building lasting relationships
In essence, all these safeguards point to the post-closing diligence RealtyShares strives for. We’re partnering with both the borrower and investor throughout the entire process, making sure the work is being completed and the funding is going to the right channels.
Investing in a home renovation can produce a number of question marks about where exactly funds are utilized. A sophisticated and well-organized draw process can help keep investors’ capital protected. In addition, borrowers get their money back as fast as possible, potentially allowing them to complete more rehab projects every year.
Kelly McDonald is the VP of residential debt for RealtyShares.