Most people do not realize that when you get a construction or renovation loan from a bank you are getting more than just the monies to complete the project; you are getting a measure of protection for both yourself and the builder/contractor.
Protection 1 — Escrow
Many builder/contractors demand upfront monies from you before they even start your job, and once they initially start the work (typically demolition of part of your home) they demand even more money before they continue with the new build.
They argue they need to be sure they have the money to pay for materials and labor before they actually do any work. Meanwhile, you are afraid of paying up front, worried that they may work extremely slowly or even not at all which, unfortunately, does sometimes happen.
I do speak to you and the builder/contractor, which you choose to do the job, and explain how the bank loan offers a measure of protection to both parties.
I explain to all that the first step is getting the entire loan approved and closed before any work is started. That way, the builder/contractor knows that the entire sum of money for the project is sitting in a bank escrow account, waiting to be disbursed once the work is completed and inspected.
In this way, a builder/contractor will have no excuse for wanting upfront monies for the job — they know that a bank is holding and distributing it. If they continue to demand upfront monies, that is a red flag that your builder/contractor may be struggling or otherwise not be reputable.
Protection 2 — Advice
This is the second way that I help to protect you — In working with you and your builder/contractor, if I spot this or any other red flag I will let you know about it immediately. We can then discuss whether it may be in your best interest to find a new builder/contractor, one that can perform a stage or the work before being paid.
One exception to paying after work are for manufacturers deposits for building materials and other soft costs. At closing, 10% of building cost can be advanced to cover these types of fees. This is one of the details that I discuss with you at length during the loan process.
Protection 3 — Cost Based-Line Item
My Cost Based-Line Item Excel spreadsheet is central to ensuring a smooth building process. I design one for every project, detailing each stage of the construction or renovation project and their costs. With it, all parties are kept on the same page in regards to project stage and stage costs.
I also use this form during the draw process, when you start to request monies to pay for the line items that have been completed. Establishing the Cost Based-Line Item sheet and its use up front, eases the process before ground is broken and reduces stress for everyone.
The bottom line is that a properly originated construction or renovation loan can provide protection for both the owner of the property and the builder/contractor.