The two parts of a fix-and-flip project that require funding are property acquisition and construction costs. Consequently, the construction draw process is a fundamental part of the project’s overall success and key to borrower happiness.
The Importance of Property Inspections
When a borrower completes work on a project and is ready to receive a construction draw, he must request reimbursement for out-of-pocket expenses associated with that project.
Before a loan is issued, the lender orders a property inspection. The third-party inspector walks through the property and may even discuss the scope of work with the borrower. There are two parts of that that are important for investors:
If the scope of work is reasonable and the loan amount will cover the work, the loan is approved and underwritten.
Subsequent project inspections happen when the borrower requests reimbursement for expenses and the lender orders another inspection.
In the scope of work, a percentage of the loan amount is dedicated to each distinct part of the construction process. For instance, if renovations in the kitchen represent 5 percent of the total project, living room renovations represent 10 percent, and the bathrooms represent another 10 percent, then completion of those parts of the project amounts to 25 percent project completion. Construction draws are based on the percentage of work completed as reported in the inspection report.
Inspections Protect the Lender and Fund the Borrower
Once a loan is funded, the borrower renovates the property according to the project’s scope of work. Every borrower is different when it comes to construction draws. Some may request eight and some may request none, but the average number of construction draws is four to five. Either way, the process must be as streamlined as much as possible to ensure the experience is positive for the borrower so that he’ll become a repeat customer.
When the borrower reaches the end of a construction phase, he sends a request to the lender for reimbursement of expenses. For instance, if the initial phase of a fix-and-flip project is materials acquisition and renovation of one room in a single-family unit, the investor will purchase the necessary materials and complete the one-room renovation before requesting his first reimbursement. If the materials cost $15,000 and other expenses related to renovating that room equal $5,000, the borrower will request reimbursement of $20,000.
Rather than simply issue a check without verifying the work has been completed, the lender should order an inspection of the property in order to protect their investment.
Outline of the Construction Draw Process
When the borrower is ready for a construction draw, he notifies the lender to request reimbursement for expenses. The lender orders an inspection from one of many nationwide service providers in their network. It’s crucial for a lender to have a good network of inspectors in the markets they service. Otherwise, if you have to inspect a property in rural Iowa and your network of inspectors is so small that you must search for an inspector within a reasonable driving distance, it could delay the process. AlphaFlow makes it easy for lenders by providing access to a nationwide network of inspectors that can be easily reached through our lender portal.
Once an inspection is requested, the inspector schedules an appointment with the borrower to conduct the inspection. Afterward, the inspector sends her report to the lender. The lender uploads that report and the borrower’s routing and bank account numbers into our secure lender portal. We’ll review the inspection report and approve the construction draw. The borrower normally receives a direct deposit within a few business days from their initial request.
AlphaFlow values seamless communication with each lender. Therefore, we work hard to eliminate bottlenecks. The lender portal keeps the lender informed of the status of the construction draw process each step of the way.
The key to a successful construction draw process is borrower happiness. The more positive the experience is for the borrower, the better the relationship will be between the borrower and the lender. The borrower will take out more loans and the lender will be free to underwrite more loans. As a result, everyone is happier and more profitable.
About the Author:
Chase Scott is the VP of Operations at AlphaFlow, where he is responsible for all loan servicing and asset management operations at AlphaFlow. As a 10-year mortgage servicing and asset management veteran, Chase specializes in establishing operations and building high-performing teams. Prior to joining AlphaFlow, Chase was at LendingHome, where he built and led a full, in-house Servicing and Asset Management team — which included Customer Care, Loan Administration, Default Prevention, Loss Mitigation, Foreclosure, REO, and Portfolio/Investor Management functions. There, his team managed just over $1B in assets. He also has held leadership roles at Nationstar Mortgage and Conventus. Chase graduated from Texas State University.
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