Construction loan structuring in a higher-rate environment
The loan terms that made a development pencil in 2021 don't automatically survive the trip to today's rate environment.
What changed, structurally
Construction loans carry floating-rate exposure through the entire build period by default, which means a project underwritten at origination has real exposure to where rates sit not just today, but over the following 18 to 36 months of construction and lease-up. In a higher-rate environment, the interest reserve sized into the loan at closing — the pool of budgeted interest carry meant to fund debt service during construction, when the property isn't yet generating income — has to be sized to a realistic rate path, not the rate at closing, or it runs out before the project is income-producing.
Where sponsors get the sizing wrong
The most common construction-loan misstep isn't the leverage level, it's an interest reserve sized to an optimistic completion timeline and an optimistic rate assumption simultaneously. If either the construction schedule slips or rates move against the sponsor — and both have been common in this cycle — an undersized reserve forces the sponsor to fund debt service out of pocket at exactly the point in the deal when liquidity is tightest.
What lenders are asking for now
Construction lenders in this environment are more consistently requiring rate caps — a hedge against floating-rate exposure during the build — more conservative loan-to-cost ratios, and completion guarantees from sponsors with a demonstrated construction track record. Sponsors without that track record are seeing more meaningful pricing and structure differentiation than they would have three or four years ago, when construction lending was more broadly available on relatively uniform terms.
Where we help
We structure construction financing with realistic interest reserve sizing and rate-hedge strategy built in from the start, and we work the lender relationships needed to get sponsors without an extensive construction track record to terms that reflect the asset and market, not just the sponsor's resume.