By Roy Urrico
Credit unions seeking to expand lending portfolios could look to add construction loans, traditionally seen as too dicey and difficult to manage. Greenwood Village, Colo.-based CFSI Loan Management, an end-to-end construction risk mitigation company, aims to make it easier to take on the intricacies of these loan types by helping lenders manage and complete construction projects.
A home construction loan is usually a short-term, high-interest vehicle that provides the funds required to build on a property. As of the fourth quarter of 2022, commercial and non-commercial construction loan volume totaled $467.64 billion, according to S&P Global Market Intelligence. This was the highest level since the second quarter of 2011.
Currently, the top five construction loan lenders, in terms of number of loans, are (in order): Wells Fargo, U.S. Bank, Bank of America, JPMorgan Chase and Truist, reports S&P. According to the National Association of Home Builders (NAHB), smaller financial institutions (less than $10 billion in assets) held a 66.34% share of residential construction loans in 2014; this share fell to 52.37% in 2022.
“In most cases, construction lending is offered as a small subset of many banks, credit unions, (and) mortgage company portfolios,” said Brian Mingham, founder and CEO of CFSI. Mingham spoke with Finopotamus about how credit unions and other financial institutions can add or increase construction loans as a business line.
“The loan covers the acquisition of the land, the hard costs (actual building materials), and soft costs (permits, engineering reports, et cetera),” explained Mingham. He added that it is the management of construction loans that becomes the challenge for many lenders because of the complexities and cash management issues. “It's a lot of headaches, requiring a specialized team, and many people just don't want to invest in the process.”
Construction Lending Problems
The idea behind CFSI came to Mingham in 2010 while he was in the mortgage banking business space and witnessed firsthand the problems lenders have with construction loans. He said, “I saw the value of a company which provides a platform that enables lenders to easily manage the completion of new or unfinished construction projects.”
After hiring a seasoned construction management team, Mingham launched the construction lending platform in April 2013. Since then, the company has emerged as the industry leader in construction risk management, achieving an annual growth rate of roughly 40%.
Mingham noted at most lending institutions, construction loans comprise less than 10% of originations. This is because most financial institutions face significant risks due to a lack the bandwidth or the knowledge to prudently manage these transactions. Also, staffing a construction lending team often results in layoffs when the market takes a downward turn.
In addition, performing due diligence on contractors and managing them through the entire construction process is not necessarily a strong point for many credit unions, banks and independent mortgage bankers. Controlling disbursements is another area that presents conflicts while monitoring construction work progress and completion.
Using its proprietary technology, Mingham said CFSI enables lenders to effectively manage all the moving parts of construction projects through completion while effectively controlling disbursements and maintaining oversight of the contractor and finished work. The company also helps lenders avoid fraud by ensuring improvement of the correct property.
A Diversity of Project Types
Mingham noted that while market volatility can negatively impact many businesses, so far, the current turmoil in the banking sector is not impeding longer-term construction projects. One change occurring over the past decade, however, is the institutionalization of private money – turning some mega-investment management firms into key players in the market. “It’s these folks who appreciate our platform the most,” Mingham said.
CFSI also helps lenders manage residential renovation projects, as many consumers are now permanently working remotely and need an upgrade to their homes. Renovation financing might also require the financial institution to control disbursements, which CFSI noted it can help with.
According to Mingham, the diversity of property types CFSI can manage led to the company’s consistent growth. Even though the number of construction loans in process is down because of the economy, overall transaction volume continues to rise because clients are utilizing more of CFSI’s services on each transaction.
“We’ve become the largest national service provider in the construction lending space, and our business is growing,” Mingham added. “As B2C (business-to-consumer) applications for high-net-worth borrowers increase, consumers overseeing their own renovations is potentially on the horizon. Given that the nation is still short of housing supply by five million units, we are well-positioned for further growth.”
CFSI’s business is a mix of residential, commercial and apartment construction, including industrial. Since its founding in 2013, CFSI Loan Management has completed more than 150,000 project inspections, 50,000 funding draws and 25,000 project feasibility reviews. Currently, CFSI’s construction lending platform manages more than $15 billion in construction projects.
Managing Risk
A financial institution cannot afford a bad business decision on a construction loan, because if it does, the loss severity is much greater, Mingham observed. If a financial institution funds a general contractor for say $1 million dollars, “I give you all the money up front, (the contractor) disappears. Your loss is massive.” Mingham said CFSI lets the lender make a good business decision on the loan application. “(We ask) can he afford it? Does he have good credit? All that stuff. We manage the contractor, the project, we cost the project.”
Mingham also pointed out, “We make sure the budget is accurate for the type and style of project being built. We make sure that the contractor has built that type of house, that he is licensed, insured, (so) no nefarious activities happen. We help the lender manage that part of the process, which they're typically not good at because they don't do very much of it.”
In addition, “We make sure that before they fund the loan, it is a good loan because once they fund it, (if) the borrower walks away, because something bad happened with the contractor, (or) the budget was not enough, now they have a half-built project. They are going to have to sell to an investor or somebody else, and they are never going to get their money out of it. That's where the losses come from,” Mingham said.
CFSI work continues after the closing the loan. “You have to watch the money; you have to make sure that (property owner’s) concrete (bill) gets paid and the contractor does not keep that money. We keep the project on time and on budget. We act as counselors,” noted Mingham. “The front end helps you make a good business decision, the back end, keeps you compliant and the project on track and on budget,” claimed Mingham.
An Opportunity for Credit Unions
Mingham suggested credit unions in particular have a unique advantage for their members by offering this type of product. “Most financial institutions have ignored construction and renovation lending in general for the past three or five years during the refi (refinance) boom. It will definitely differentiate them from local community banks that still shy away from it.”
Construction lending is not as risky as people fear it is, maintained Mingham. “With the proper checks and balances, it can be a profitable loan program for originators and financial institutions.” He added, it can help establish a relationship with the credit union, which in turn can lead to other accounts and services.”