Construction loans are one of the highest-yield products in private lending and one of the most operationally demanding. Unlike a stabilized acquisition or a short-term bridge, a construction loan is not a single transaction — it is a series of disbursements over months or years, secured by collateral whose value is changing with every draw. The lender is, in effect, underwriting an active construction project for the duration of the loan.
The lenders who do this well are not the ones with the best origination intuition. They are the ones with disciplined risk controls that operate at every phase: closing, draw, default, and REO. Geraci LLP’s banking and finance team works with private lenders, construction-focused mortgage funds, and warehouse counterparties on the structure of construction-loan programs and on workouts when those programs run into trouble. Five controls separate the platforms that survive construction defaults from the ones that absorb large losses.
1. Title and Builder’s Risk Insurance That Actually Protects the Lender
The title insurance policy on a stabilized acquisition is largely set-and-forget. The title insurance posture on a construction loan is not. Mechanic’s liens are the central exposure: a contractor or subcontractor with a perfected lien claim that pre-dates the lender’s deed of trust can subordinate or even displace the lender’s lien position.
The defensible title posture for a construction loan looks like this:
- A 2021 ALTA loan policy with extended coverage and no Western Regional Exceptions.
- ALTA 32 endorsement (Construction Loan) for lien priority protection during the construction period.
- ALTA 33 endorsement (Disbursement) to maintain coverage as the lender disburses additional funds.
- An indemnity package from the title company, typically requiring lien waivers and releases from the general contractor and any meaningful subcontractors before each significant draw.
- Continued lien priority verification at each disbursement, not just at the initial closing.
If the title company will not issue this coverage on a particular project, that itself is information. Either change title companies or rethink whether the deal should be made at the proposed structure.
Separately, builder’s risk insurance is non-negotiable. Standard hazard policies do not cover materials and equipment on site that have not yet been incorporated into the structure, and they generally do not cover construction-period perils at all. The lender should be named as additional insured or mortgagee on a builder’s risk policy that extends through the entire construction period and includes ordinance-and-law coverage where the local jurisdiction has triggering codes.
2. Borrower Skin in the Game
The era of 100-percent loan-to-cost construction lending in the private lending market has largely ended. Most disciplined construction lenders today cap LTC in the 70-to-80-percent range, with the borrower contributing the balance at closing or through a documented borrower-equity contribution at the front end of the project.
The reason is alignment, not just loss coverage. A borrower with meaningful equity in the project has a strong incentive to finish it. A borrower with no real money in the deal has the option, when the project goes sideways, of walking away and leaving the lender holding a partially completed asset. That option is far more attractive when the borrower’s downside is limited to time and reputation, not capital.
Practical structures for ensuring borrower contribution:
- Up-front equity contribution verified at closing through bank statements and source-of-funds documentation.
- Borrower-funds-first draw sequencing, where borrower equity is fully deployed before lender disbursements begin or before the lender reaches the construction-reserve portion of the loan.
- Holdback structures that retain a portion of the loan amount until specific completion milestones, with releases tied to verified work in place.
A construction loan with no borrower equity, no reserve holdback, and 100-percent financing is a put option the borrower holds against the lender. The lender does not want to write that option.
3. Assignments and Collateral Protections
Construction lending sits in an awkward middle ground between real estate lending and operating lending. The lender’s collateral is real property, but the value of that collateral depends on the successful completion of an active business project. If the project stalls and the lender forecloses, the lender often inherits a half-built structure with executory contracts the lender did not negotiate, designs the lender does not own, and permits the lender cannot lawfully use without consent.
A defensible collateral package for a construction loan includes:
- Assignment of construction contracts. Pre-negotiated assignments of the borrower’s contracts with the general contractor and with key design professionals (architect, engineer, geotechnical), enforceable on default.
- Assignment of plans, specifications, and drawings. Without these, a successor lender or new contractor cannot continue the project as designed without re-engineering it.
- Assignment of permits. Subject to local jurisdictional rules, lenders should secure a path to maintain or transfer building permits in the event of foreclosure.
- Assignment of bonds. Performance and payment bonds are often a meaningful piece of the project’s risk structure. A dual obligee rider, or a direct assignment of the bond rights, gives the lender the ability to pursue the surety after default.
- Subordination, non-disturbance, and attornment agreements (SNDAs) with anchor tenants if the project includes pre-leased space.
These assignments do not make the lender into a developer. They make foreclosure into a recovery path that does not require the lender to start the project over from scratch.
4. Active Servicing: Draw Discipline and Inspection Rigor
A stabilized loan is serviced. A construction loan is managed. Funds disburse over time, against work in place that has to be verified, against budgets that may need to flex, against schedules that change. Most construction-loan losses Geraci LLP sees in workouts trace back to draw-management failures, not underwriting failures.
The minimum servicing discipline:
- Independent draw inspections. A qualified third-party inspector — engineer, architect, or specialized construction-loan inspection firm — should inspect each draw, photograph progress, and certify percent-complete on each line item. The borrower’s own representations are not enough.
- Documented draw approvals. Each draw approval should be tied to specific completed work, lien waivers from contractors paid out of the prior draw, and an updated project budget.
- Construction-loan management software. Spreadsheet-based draw management does not survive even a moderately complex project. Use software designed for construction-loan administration that integrates draw tracking, inspection reports, and disbursement records.
- Written draw policy. A pre-published draw policy that specifies what triggers a draw, what documentation is required, what inspection is conducted, and what approvals are needed. Deviations from the policy should be documented and justified in writing.
- Periodic policy audits. A quarterly review of any deviations from the draw policy, to ensure exceptions are not becoming the norm and that the program is being administered consistently across borrowers.
Lenders sometimes treat the draw-inspection cost as borrower-borne and otherwise ignore it. That is a mistake. The inspector reports to the lender, not the borrower. The point is independent verification, not borrower convenience.
5. Loan Documents Built for Construction Risk
The fifth control is the loan documents themselves. A construction loan papered on a stabilized-property template is one of the more common structural defects in the private lending market. Construction-specific provisions to verify:
- Detailed construction-reserve mechanics. How the reserve is funded, what triggers disbursement, what happens to unused reserve at completion, what happens if costs exceed budget.
- Robust construction-default definitions. Cost overruns, work stoppages exceeding a defined period, lien filings that are not bonded around or discharged within a stated cure window, scope changes without lender consent, unauthorized substitutions of contractors or designers — all of these should be enumerated as defaults, with clear cure rights or no cure rights as appropriate.
- Lender’s right to complete. Express documentation of the lender’s right (not obligation) to take over and complete the project upon default, with funds drawn from the construction reserve.
- Mandatory lien waivers and releases as a condition of each draw.
- Cross-default and cross-collateralization clauses where the borrower has multiple loans with the lender.
- Personal guaranties and completion guaranties where the project economics warrant.
- Permitted-change-order provisions that define what scope changes the borrower can make without lender consent and what changes require approval.
Loan documents are the lender’s leverage in workout. A construction loan papered loosely turns into a workout where the lender’s options are limited by gaps in the documents. Tight documents create options.
How These Five Controls Work Together
None of these five controls work in isolation. Title insurance protects against mechanic’s liens, but it does not help if the lender’s documents do not require lien waivers at each draw. Borrower equity supports project completion, but only if draw discipline ensures the equity is actually deployed first. Assignments give the lender a recovery path, but only if the loan documents make those assignments enforceable on default.
The lenders who run profitable construction-loan books are the ones who treat all five as a single, integrated program. The lenders who absorb large construction losses are usually the ones who got four right and one wrong, and the missing piece is the one the borrower’s counsel found.
Where Geraci LLP Helps
Geraci LLP’s banking and finance group works with private lenders and construction-focused mortgage funds on every component of construction-loan program design — title and insurance specifications, draw mechanics, assignment packages, default definitions, completion-guaranty structures, and workout strategy when projects fail. The firm also handles the loan-document revisions that get a stabilized-template program ready for construction product, and the workout litigation when a construction default goes contested.
If you are launching a construction-lending program, tightening up an existing one, or in the middle of a construction default, contact Geraci LLP.
