Managing risk in preparation for a church's loan approval takes savvy and careful planning.
Tim Lawrence · February 27, 2018
Ultimately, the biggest risk for an Owner-Builder is that any cost overruns or legal liability is taken on by the owner rather than the builder. All of the risk has shifted to the church. Most lenders will not loan an Owner-Builder project, regardless of how financially strong the church is.
Even projects managed by a Construction Manager have the potential to be Owner-Builder. It is common for construction managers to recommend the church to contract directly with the subcontractors, but the construction manager will agree to stay on to manage the project.
This is called Construction Manager as Agent, but is really Owner-Builder in disguise, unless the contract specifically promises to deliver the project at a specified price, and explicitly spells out the construction manager’s relationships with the subcontractors. If a construction manager recommends this project delivery, it is a sign that they do not want to or aren’t financially able to take the risk of delivering the project at a specified price. Since Construction Manager as Agent is basically an Owner-Builder project, most lenders will not loan on this project delivery, as well.
Danger Zone #2: Lack of Contingency
A second danger zone is lack of contingency built into the project.
Contingency refers to a dollar amount set aside in the cost estimate for costs related to unforeseen circumstances in the construction process. This amount can vary based on a variety of factors, including the complexity and size of the project. Note that contingency is not an amount set aside for change orders initiated by the church, like upgrading the flooring, but rather for change orders necessitated by issues during construction; for example, encountering soil issues during grading as a result of unseasonably wet weather.
Construction projects rarely go as planned, so a healthy contingency is critical to reducing the construction risk of the project.
Keep in mind that most lenders will monitor the church’s funds during a project. If, at any time during the project, the cost to complete is greater than the sum of the church’s cash contribution and the remaining amount of the loan, the lender may halt disbursements to the project until the deficit is corrected. If contingency runs out, and further unforeseen changes continue to escalate the cost of the project, the church runs the risk of having the project stopped in the middle of construction by the lender.
A prudent lender, then, will require a significant contingency. Ten percent is a rule of thumb for the project. If [an] adequate contingency is not in the cost estimates, the lender may require the difference between the minimum requirement and what is shown in the estimate to be deposited into a captive account at the lender. Making sure there is adequate contingency either in the cost estimate or set aside as additional borrower contribution will put the church in a better position for the lender to say yes to the loan.