How to structure Private loan for rehab cost

[Harjot Gill]

Hi,

I'm planning on lending to an investor that needs money for rehab costs. 

He already has a short term loan that he used to purchase the property.

He needs extra money to over the rehab cost.

How to should I structure this loan?

[Dion DePaoli]

Well how long until he finishes the project and how do you plan on distributing the funds to him?

If the loan amount is large you may want to have draw downs at certain construction milestones upon inspection.  This limits your exposure to a default and flight on the project.  There are title companies and inspection companies who can help conduct the draws and inspections.  

The loan will be in second position since he already has a first position.  It would be wise to review the current security instrument from the other lender.  Attaching another loan to the property, assuming that is your plan opposed to making an unsecured loan, is important.  The first lien may have clauses which require permission to be granted.  The loan could carry a deferred interest which means what is actually due on the note will be greater than the loan amount due to interest being paid upon sale or completion.

How will you be handling the interest accrual of your loan?  Is the borrower to make monthly payments.  Will you set up an interest reserve?  Will you defer interest payments?  The answers to these are what you negotiate and what the project is and how it will be managed.  

The obvious question is why is the project already over budget?  Chances are the first lien wanted to see a financial plan and capacity to ensure the project could be completed and they get paid back.  So it seems likely there is a cost over-run which now requires the borrower to seek more money.  I would dig into that to understand the risk of putting good money on top of bad money.  

These are just some ideas that can go into your inquiry.  Really what you should do is describe the deal a bit more.  Loan terms are relative to the risk and you didn't really describe enough of the deal or risk to understand what may or may not be warranted.