Construction Business Loans 101: What’s Available Today
The construction industry is cash-intensive. You need to cover significant upfront costs for equipment, materials, and labor prior to receiving client payments. With the right construction business loan, you can keep your projects moving, handle ongoing cash flow challenges, and take on new opportunities to grow your business.
In this article, you’ll learn about the types of operational and financial challenges construction companies face, the specialist loans available to firms in this sector, and the more mainstream financing options that are available to support your needs.
The Financial Challenges Contractors Face
Six of the main obstacles construction companies face include:
Project management complexity: Construction projects are hard to manage. Architects, specifiers, contractors, and suppliers need to be on the same page because delays in one area of a project can create a domino effect of problems, leading to increased costs and longer timelines.
High upfront costs: Even though many contractors take deposits and have credit accounts with their suppliers, they still have to pay out a significant amount in materials, labor, and equipment upfront, which can put a real strain on your available cash reserves.
Delayed payments: Clients often take their time paying for work that you’ve already completed – it’s not unusual to wait months for the money you’re owed. This makes it much harder to pay your supplier bills and workers’ wages on time.
Labor shortages: Many experienced workers are leaving the industry, and they’re not being replaced at a high enough rate by new workers. This pushes up your labor costs and can delay the start and completion of projects because it’s hard to find the right crew.
Seasonal cash flow issues: Construction work is often seasonal. Some times of the year are really busy, while others are slow. During those quiet months, it’s a challenge to meet payroll, service existing loans, and maintain your vehicles, equipment, and machinery.
Creditworthiness: Many commercial construction loans are only open to business owners with good credit scores. Contractors with bad credit scores have a much harder time finding the funding they need.
Specialist Types of Construction Finance
Specialist construction financing options help you cover the high upfront costs of building projects, including land purchases, labor, materials, and equipment.
These construction business loans have three key characteristics in common:
Higher costs: Many lenders perceive construction projects as riskier for many of the reasons set out in the list above, so they charge higher interest rates to offset this risk.
Detailed loan application process: Your lender will almost certainly want a business plan, financial forecasts, and other documentation, such as your company's tax returns and balance sheet.
Repayment terms: You’ll repay all or most of the loan at the end of the term. Until then, you may need to make monthly interest payments during the loan period.
Funds are disbursed in two ways: by milestone and by lump-sum payment. Here’s what you need to know about each method.
Payment By Milestone
With these types of loans, lenders agree with property developers, remodelers, and construction companies on a “draw schedule.” That means that the borrower can draw down more funds on the completion of specific project phases, like when excavation work or structural framing has been completed.
The three options are:
Commercial construction loans: Used to fund commercial properties like office buildings, retail centers, and factories, loan amounts are high enough to cover upfront costs like down payments on land, materials, labor, subcontractors, and other expenses like permits and equipment rentals.
Construction-to-permanent loans: These types of loans start as short-term construction funding before turning into standard mortgage loans when the project is complete. These types of loans save on paperwork and closing costs, and you may also be able to lock in your interest rate from the start.
Development funding: Designed to fund the early stages of larger construction projects, development loans are used to purchase land, prepare sites, or complete initial infrastructure work for housing estates, commercial complexes, or mixed-use projects.
Lump-Sum Payments
Bridge loans and hard money loans are short-term loans that “bridge” the gap between capital you need now and capital you expect to receive later.
With these types of construction business loans, you receive the capital as one lump-sum upfront payment. Like most construction loans, bridge and hard money loans are secured against the value of the property or land. However, they tend to place less emphasis on your credit history, focusing more on the asset itself due to their short-term and higher-risk nature.
Bridge loans are ideal for shorter-term projects with completion dates of 12 months or less. Firms also use them to cover shortfalls on longer projects. They take them out when there is a shortfall in cash, clearing the balance when the next tranche of funding becomes available from commercial construction loans, construction-to-permanent loans, or development loans.
Bridge loans are widely available from banks, credit unions, and online lenders. Hard money loans are far more specialized and are designed for projects that are high-risk and unconventional, like speculative developments or rehabbing distressed properties. You’ll almost certainly need to find private lenders to fund a hard money loan.
SBA Loans for Construction Businesses
The SBA loan program, administered by the Small Business Administration, has two main loan packages suitable for construction business owners:
SBA 7(a) loans can be used by a construction firm to purchase new equipment and hire additional staff if they want to expand.
Although SBA 504 loans can be used on real estate projects, they’re not really construction business loans because the borrower must take up at least 51% of the available space in a renovated building and 61% in a new building.
You make a monthly repayment on the capital and interest on both 7(a) and 504 loans. The maximum term on both funding options is 25 years.
Mainstream Construction Business Loans and Other Finance Options
More standard types of financing small business owners in the construction industry may be able to access include:
Small business loans: Available to all types of businesses, including construction companies, these are standard business loans where you receive a lump sum upfront and make monthly repayments on the loan over a term you agree on with your lender. You can benefit from lower interest rates if you offer your lender collateral, like equipment and real estate.
Business credit cards: Credit cards can be handy for smaller purchases during a project. Your lender lets you borrow up to a set limit, and you pay interest on the outstanding balance. Every time you make a repayment, you free up those funds to use again.
Business lines of credit: Business lines of credit operate in the same way as business credit cards. Unlike with a credit card, your line of credit has a maximum time limit by which you must settle the balance in full. You can often get a higher credit limit as well. For these reasons, business lines of credit are much more flexible than term construction business loans.
Equipment financing: Equipment financing can be used to purchase or lease construction equipment and vehicles. You make a payment each month on the equipment, and at the end of the term, you either own it, trade it back in for an upgrade, or buy it for a final lump-sum payment, depending on your agreement with your lender.
Working capital advances: A working capital advance is a type of short-term funding to cover everyday expenses like payroll, rent, and utilities. This can be especially important during slower periods or when client payments are delayed.
Make the Right Funding Choice for Your Construction Company
Construction company owners benefit from having a wide choice of specialized and mainstream lending loan options available to them. This access is vital given the unique challenges you need to overcome related to cash flow and seasonality.
The key is to select a construction business loan that suits your project’s specific requirements. It’s also important to ensure the funding aligns with your financial circumstances.
Backd is a fast-growing online lender focused on providing financing solutions that work for small businesses. We offer two funding options, both of which can help construction firms survive and grow:
Working capital advance: Access between $25,000 and $2 million (minimum one year in business required).
Business line of credit: Borrow between $50,000 and $750,000 (minimum two years in business required).
To be eligible for our lending solutions, you must be based in the U.S., have established business credit already, have a brick-and-mortar address, have a minimum credit score of 625, and have a minimum monthly revenue of $100,000.
Apply now and be funded within as little as 24 hours.
