Demand for housing hit a high unlike any other during the pandemic. While demand grew, the number of acquisition, development and construction (ADC) loans in bank portfolios grew parallel alongside it. Construction and development loans at community banks increased 21.2% between the first quarter of 2021 and the first quarter of 2022, according to the Federal Deposit Insurance Corp.’s Quarterly Banking Profile.
As a subset of the commercial real estate (CRE) lending space, banks are accustomed to the timely process that construction lending requires. But are banks prepared for the influx of risk that can accompany this growth?
Mitigating construction risk is a bit like attempting to predict the future: Banks not only have to evaluate creditworthiness, but they also have to predict what the project will be worth upon completion. With another interest rate hike expected later this month, being able to accurately price projects is becoming more complicated — and more vital.
Here are three ways financial technology companies can help banks in their attempt to fund more ADC projects.
Software can automate the drawing process. Construction lending features the unique ability for builders to “draw” cash from their loan throughout the project. Spacing out the draw schedule protects banks from losing large amounts of money on projects that go cold, and also allows proper due diligence and inspection to be on rotation.
CoFi — formerly eDraw — specifically focuses on this process. Bank associates access all budgets, invoices, approvals and construction draw records in one web-based system. The bank’s borrowers and builders also can access the software through customer-facing accounts. A builder requests funds by uploading invoices, and CoFi then notifies the bank that their approval is required for the funds to be disbursed.
Once the bank approves the disbursement, the borrower is notified. Banks can also dispatch inspectors to the property using CoFi. After confirming that construction progress is in line with the draw requests, the inspector can upload their report directly into CoFi. With all of the proper approvals in place, the bank can release funds for the payment request. All actions and approvals are tracked in a detailed, electronic audit trail.
CoFi also has a construction loan marketplace banks can plug into.
Multiple parties and industries can collaborate in real time through web-based solutions Nashville-based Built Technologies operates as a construction administration portal, coordinating interactions and transactions between the bank, the borrower, the contractor, third-party inspectors and even title companies in one location.
Legacy core banking technology wasn’t designed to completely support construction loans, which moved the tracking of these types of loans into spreadsheets. Built’s portal eliminates the need for these one-way spreadsheets. The moment a construction loan is closed, instead of a banker creating a spreadsheet with a specific draw budget, they can design one digitally in Built and reconcile it throughout the duration of the project.
Builders can even request draws from their loan through their phones, using Built’s mobile interface.
Fintechs can better monitor portfolios, identify errors and alert banks of risk areas, compared to manual review only. ADC loans are fraught with intricate details, including valuations that fluctuate with the market — details that can’t always be caught with human eyes.
Rabbet uses machine learning and optical character recognition (OCR) when reviewing documents or information that is inputted to its platform, the Contextualized Construction Draw format (CCDF). It also continually monitors and flags high-risk situations or details for borrowers, including overdrawn budgets, liens or approvals. Any involved party — developer, builder or bank — can input budget line items into the platform. Rabbet then links relevant supporting documents or important metrics to that item, which is information that is typically difficult for lenders to track and verify.
Storing loan calculations and documents in one place can translate to faster confirmations for borrowers and easier reconciliation, reporting and auditing for the bank.
In July 2022, Built announced the release of its own contractor and project monitoring solution, Project Pro. The technology helps banks keep track of funds, identify risk areas such as missing liens or late payments, and stay on top of compliance requirements.
Banks with a heavy percentage of construction loans on their balance sheet need to keep notice of all elements attached to them, especially in a rapidly changing economic environment. Technology can alleviate some of that burden.
CoFi, Built Technologies and Rabbet are all vetted companies for FinXTech Connect, a curated directory of technology companies who strategically partner with financial institutions of all sizes. For more information about how to gain access to the directory, please email [email protected].
Is digitizing your small business lending a priority for your bank? Increased efficiency, profitability, productivity and enhanced customer experience are all reasons why it should be. For example, in most banks the administrative and overhead costs to underwrite a $50,000 loan and a $1 million loan are essentially the same. Wouldn’t it be great to free up your team to focus on the most important thing—the customer—and let the technology take of the rest?