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Updated: April 1st, 2020
Running a construction business can be an expensive endeavor. Between dealing with uneven cash flow and seasonal ebbs and flows, having to cover large upfront expenses, and purchasing or repairing big-ticket equipment, it is often capital-intensive.
Fortunately, there are a number of construction financing options that exist to help your business grow. From commercial construction loans to term loans, read on to learn which form of business funding makes the most sense for your operation.
A construction business loan, generally speaking, is any loan that’s used to fund a construction business.
One important point to clarify: this guide is focused on financing options for actual construction companies, not other businesses that are in need of construction for a new location or remodel.
There is no one-size-fits-all construction business loan. Different lenders can offer different loan options, depending on what your business needs the money for.
Construction business loans can vary greatly in terms of how long the repayment term lasts, the amount you can borrow, associated loan fees, interest rates and down payment. Some loans may offer a few thousand dollars in funding while others allow you to borrow $1 million or more for your business.
Collateral requirements also vary. An equipment loan, for instance, would use the equipment you’re buying as collateral. The loan term might extend as long as the useful life of the equipment. You may be able to get 100% financing, or you might have to offer a percentage of the purchase price as a down payment.
The kinds of fees associated with a construction business loan can include loan guarantee or processing fees, documentation fees, project review fees and fund control fees if you’re operating on a draw schedule. You should also be aware of any prepayment penalties that may apply for paying a loan off early.
However, commercial construction loans don’t always follow the same payout rules as other small business loans. For instance, a traditional business term loan might offer a lump sum of money you could use in your construction business. With a commercial construction loan, which is a specific type of loan designed for financing the costs of the construction or renovation of a commercial building, you’ll likely encounter a draw schedule instead.
In this type of borrowing scenario, the lender releases loan funding incrementally as you hit milestones during a construction project. With this kind of loan arrangement, you’d only pay interest on the amount you’ve drawn. In that sense, it’s similar to a business line of credit. Once you complete the commercial construction project, you’d pay off the principal in one lump sum, or alternatively, take out a commercial mortgage which offers more manageable monthly payments.
Construction business loans are flexible enough to meet a variety of needs. Some of the most common uses for construction loans include:
Construction loans can help you buy or lease heavy machinery, equipment and tools necessary to run your business. For instance, you might need to purchase a new backhoe or dump truck mid-project. If you don’t have the cash flow, a loan could fill the gap.
Some construction projects involve purchasing or renovating commercial projects. For example, you may be working with a developer to turn an empty retail store into a gym. In those instances, a commercial construction loan could be used to fund the project from start to finish.
Tackling a construction project, big or small, is challenging when you don’t have a crew. A small construction loan could help you hire and train the workers you need to get your next job done.
Managing the day to day costs can be one of the more tedious aspects of running a construction business. Construction loans can infuse the business with cash to cover payroll, taxes, insurance premiums or any other operating costs you need in order to operate.
Staying competitive may be one of your biggest challenges. Taking out a construction loan can provide you with funding you can sit on while you bid on projects. You can keep the money in reserve, allowing you to bid strategically with the knowledge that you have funds ready to go if your bid is accepted.
Launching a new construction business from scratch or expanding one you already own are other needs a loan can help meet. You could use a small startup loan to purchase the initial equipment and supplies you need. Or, a larger construction business loan could help you with scaling up your marketing efforts or expanding your services.
There are several sources you can use to obtain construction financing. Understanding how they compare can help you decide which one is the best fit.
The Small Business Administration partners with lenders to guarantee loans for eligible borrowers. It sponsors two loan programs that might be of interest to construction businesses.
SBA 7(a) loans
The 7(a) loan program allows eligible businesses to borrow up to $5 million. Loan terms extend up to 10 years if the money is used for working capital and up to 25 years for commercial real estate purchases.
The SBA requires that their partner lenders to collateralize loan amounts of $350,000 (or more) to the fullest extent possible. There’s also a down payment required, which may be anywhere from 10% to 20%. The 7(a) loan program is designed for established businesses with good credit history.
SBA CDC/504 loans
The CDC/504 loan program is designed to help businesses purchase real estate, equipment and machinery. Like 7(a) loans, terms may last 10 or 25 years. Down payments are in the 10% to 15% range.
The maximum loan available is $20 million, which may make these better suited to large-scale construction equipment purchases or real estate purchases. It’s possible to qualify for a CDC/504 loan as a startup construction business but the majority of funding goes to established businesses.
Equipment loans, or equipment financing, can help your construction business get the equipment and machinery needed to operate. The equipment acts as collateral in most cases, though you may be expected to offer a down payment for a loan.
The loan repayment term is often tied directly to the equipment’s life span. The lender may tailor the loan terms so that the equipment doesn’t outlast the loan. The most favorable loan terms, however, would be reserved for the most qualified borrowers.
Small business term loans offer a lump sum of funding for construction companies and other types of businesses. Short-term loans may have repayment terms lasting less than a year, while long-term loans may give you up to five years (or in some cases, longer) to repay what you borrow.
Term loans are flexible, in that you can use them for virtually any purpose, including refinancing existing business debt. You can find term loans through banks, credit unions and online lenders, with options for both good credit borrowers as well as those with less than perfect credit.
Compared to SBA loans or equipment financing, term loans may have lower borrowing limits. For instance, you may be looking at a maximum loan of $500,000 instead of $5 million. But they can be a good option if you have needs that go beyond big-ticket financing, such as working capital or smaller equipment purchases .
Commercial construction loans are used to cover the upfront costs associated with the construction of bigger commercial building projects, as well as the purchase or renovation of existing commercial property. Generally, interest rates range from 4% to 12%. And down payments are almost always required, which range between 10 to 30% of the entire construction project cost.
These loans tend to operate under a draw schedule, meaning funds will be dispersed as you hit certain milestones. Once an inspector clears the completion of a milestone, the next portion of funds will be released. In most cases, you only pay interest, and once you complete the entire project, you will be expected to pay off the principal in a single lump sum. In this situation, some may turn to a commercial mortgage (or commercial real estate loan), which allows you to pay off the principal with more affordable monthly payments over a longer period of time.
This type of loan is designed for construction companies, developers and builders who work with contractors. The draw schedule allows you to pay contractors as tasks, such as painting, plumbing or wiring, are completed. This can be a safety net for you, as it guarantees work is done on time. The difference between this type of funding and a regular construction loan is that you’re not borrowing a lump sum of money; in that sense, it’s more like a line of credit than a loan.
It’s important to note, that commercial loans tend to come with more stringent requirements, as the projects are considered higher-risk. You’ll likely need a personal credit score in the high 600’s to qualify, although some commercial lenders require a minimum score in the 700’s for credit approval.
Short-term financing can refer to credit cards or business lines of credit. These financing options can be a quick and convenient way to get funding for your construction company. Of the two, business credit cards may be easier to qualify for.
When considering a credit card or business line of credit, check the interest rate and fees. Credit cards typically have a variable APR, though some may offer a 0% promotional rate for a set time period. With a business line of credit, consider whether the rate is variable or fixed and whether any fees apply to open your credit line.
The specific requirements needed to qualify for a construction loan vary by the type of financing you’re seeking. But generally, you can expect lenders to examine your:
In the case of a construction loan for equipment or real estate, the lender will also consider the value of those assets. A professional appraisal will likely be required as part of the loan application and underwriting process.
Before applying for a construction business loan, first consider what purpose the loan needs to fulfill. This can help you eliminate loan options that aren’t targeted toward that particular need.
Next, take the time to compare interest rates, fees and loan terms for lenders offering the type of commercial construction loan you need. Check the minimum and maximum borrowing amounts available, as well as the minimum requirements to qualify for a loan.
Finally, compare those minimum requirements (meaning credit scores, revenues, operating history, etc.) to your financial situation. The more thoroughly you get to know what a lender expects for a commercial construction loan beforehand, the easier it is to find the loan you’re most qualified for.
Funding Circle offers construction company and equipment financing with terms ranging from six months to five years. From working capital to heavy equipment purchases, our competitive rates, exceptional service and fast and easy application process make us the go-to choice for financing within the construction industry.
We make sure our interest rates remain competitive and our lending process is transparent, fast and efficient. Apply online today; it takes just 10 minutes. You can get a decision in as little as 24 hours after submitting your documentation.
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Paige Smith is a Content Marketing Writer and Senior Contributing Writer at Funding Circle. She has a bachelor's degree in English Literature from Cal Poly San Luis Obispo, and specializes in writing about the intersection of business, finance, and tech. Paige has written for a number of B2B industry leaders, including fintech companies, small business lenders, and business credit resource sites.