Construction Loans: How They Work and Why You Need Them
Discover the ins and outs of construction loans—from basics to benefits. Learn how to finance your next commercial build with confidence.
Construction loans are a vital part of the commercial real estate financing ecosystem. For developers and investors alike, understanding how these loans function—and what lenders expect—can make the difference between a stalled project and a successful development.
At Darkhorse Capital Group, we help clients navigate the complexities of construction financing with clarity and strategy. Whether you're building from the ground up or repositioning an existing asset, this guide offers essential insights into construction loan structures, requirements, and strategic benefits.
What Is a Construction Loan?
A construction loan is a short-term financing tool used to cover the cost of building or substantially renovating commercial real estate. Unlike traditional mortgages, which provide a one-time lump sum, construction loans disburse funds in phases aligned with project milestones. These staged disbursements—called “draws”—are issued after third-party inspections verify progress.
Construction loans typically finance:
Land acquisition and pre-development costs
Hard construction expenses (materials and labor)
Soft costs (permits, architecture, engineering)
Interest reserves or contingency funds
These loans are usually refinanced into long-term debt—such as a commercial permanent loan—once the project is completed and stabilized (i.e., leased or generating revenue).
How Construction Loans Work
Construction loans are designed to support the lifecycle of a real estate project from initial development through to stabilization. Here's how the process typically unfolds:
Application & Underwriting: Lenders evaluate creditworthiness, project viability, developer experience, and financial projections.
Draw Schedule: Funds are disbursed in stages based on predetermined milestones—each contingent upon successful inspections.
Interest Payments: Borrowers pay interest only on the amount drawn, not the total approved loan amount.
Completion: Upon project completion, the loan is paid off or refinanced into a longer-term mortgage.
Typical loan terms range from 12 to 36 months, depending on project scope, with interest-only payments during the construction period.
Key Requirements for Construction Loans
Securing a construction loan involves a more rigorous process than traditional loans. Borrowers must demonstrate financial stability, development experience, and a sound project plan. While specific requirements may vary by lender, most expect the following:
✅ Strong Credit Profile
A minimum credit score of 680 is commonly required. Lenders will also examine overall credit history, existing liabilities, and debt-to-income ratios.
✅ Development or Ownership Experience
Most lenders prefer borrowers with prior experience managing projects of comparable scale. Less experienced borrowers may still qualify, but often under more conservative terms.
✅ Down Payment & Loan-to-Cost Ratio
Borrowers are typically required to contribute between 15%–40% of the total project cost as equity. This is assessed using the Loan-to-Cost (LTC) ratio, which includes acquisition, construction, and soft costs.
✅ Licensed and Insured General Contractor
Lenders require a licensed, bonded, and insured builder with a proven track record. If the borrower is acting as their own general contractor, they must meet the same licensing and insurance criteria.
✅ Detailed Budget, Timeline, and Exit Strategy
A comprehensive construction plan—including itemized budgets, development schedules, and an exit strategy (sale or refinance)—is critical for loan approval.
Benefits of Construction Loans
Construction loans are uniquely structured to meet the demands of commercial real estate development. Key advantages include:
Capital Efficiency: Draw schedules ensure funds are used efficiently and only when needed.
Cash Flow Management: Interest-only payments help manage expenses during the build phase.
Project Customization: Financing is tailored to the project’s timeline, scale, and complexity.
Strategic Leverage: When used properly, construction loans enable investors to scale portfolios and enhance long-term value.
Why Work with Darkhorse Capital Group?
At Darkhorse Capital Group, we specialize in structuring commercial real estate loans that align with your development goals. Our deep industry knowledge, extensive lender network, and hands-on advisory approach enable us to:
Source competitive rates and terms
Simplify complex deal structures
Identify appropriate loan types and lenders for your unique needs
Guide you through the loan process—from application to closing
We work with both experienced developers and new investors, ensuring every client is equipped with the insight and support needed to build with confidence.
Take the Next Step Toward Your Next Project
If you're planning a new development, renovation, or repositioning, construction financing is likely a key component of your capital stack. Don’t leave it to chance.
Contact Darkhorse Capital Group to schedule a consultation with a commercial lending expert and take the first step toward turning your vision into reality.
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