Key points:
- The construction draw process usually occurs in four segments, but projects can also have more or less draws depending on your situation.
- Lenders give the borrower a certain percentage of the financing budget for each stage.
- Draws are typically completed 30 to 45 days apart.
How does the construction draw process work?
In this video, I discuss another crucial element of construction financing, which is the construction draw process. Here’s a review on what draws are, how the draw schedule works, and an example to tie everything together.
Don’t feel like watching? Find the full transcript below!
Chris: [00:00:00] Today, we’re going to talk all about the draw process when it comes to construction financing. If you are considering building your own home and require mortgage financing to get that construction complete, then you should understand some fundamental aspects of how construction financing works. And the draws are one of the most important elements to understand. So join me as we dive into some critical details. I’ll show you an example and hopefully by the end of this video you’ll have a greater understanding of how this draw process works.
How the draw process works
Chris: [00:00:38] Once you’re approved for your construction loan, the construction mortgage lender will give you a draw schedule that looks a little bit something like this. Now, this is just an example showing four draws, which is commonly how it’s done. However, you can have more draws, less draws depending on what your needs are, but the fundamentals remain the same regardless. So what happens is that the lender will ascribe a certain percentage of completion of the home at each stage. So for example, under mortgage draw one, the lender is assigning 12% of the total financing budget is being assigned to the excavation, footings and foundation. So that amount won’t be made available until that work is complete. Then going on the damp proofing, weeping tile backfill that represents another 2%. And finally, once the framing, sheathing and roofing is on, then that’s another 17%. So mortgage draw one in this example would be 31% of the total mortgage financing that you’ve been approved for.
Chris: [00:01:56] A couple of quick comments here about how the draw process actually works. Draws are typically done anywhere between 30 to 45 days apart and they are based on the work in place. So once you as the borrower request funds, the lender would then send an appraiser to the work site to be the their eyes and ears and report back to the lender exactly how much work has been completed. And based on that work in place, the lender would then do their calculation based on the percentages that we saw in the schedule and advance funds to your lawyer subject to certain holdbacks. Each draw under construction loan has deductions from it. The most important one and non-negotiable one is that 10% of each draw will be held back due to the Construction Liens Act. I’m going to do a separate video on this topic, so visit my resource page for more information on on the 10% hold back. The other key deduction would be the accrued interest on any monies that have already been advanced. Very often lenders will actually deduct the prepay interest for a 30 to 60 day period and deduct that from the advance. And then the third major deduction would be fees. So each time you draw money, it involves getting a lawyer involved. Your lender gets involved, there are admin fees, there’s the inspection fee. So you can expect deductions for all these factors.
Understanding draws: An example
Chris: [00:03:40] Let’s bring all of these elements together with a quick example just for illustration purposes, to make sure that you really understand this by the end of the video. Let’s assume that you have a $750,000 construction loan approved from your construction lender. That’s the total gross amount. Per our draw schedule 31% was mortgage draw number one. So 31% of $750,000 is 232,500. Then we know that there are deductions. So there’s right off the top, the 10% construction lien holdback which gets deducted. The lender charges you whatever, two months of interest. I’m just coming up with an example here. Let’s say it’s $10,000 and then there are $1,000 in approximate admin and legal fees to get this advance done. So if it’s 232,500 less all the deductions, you will receive $198,000 in your pocket to go out and pay your contractors to move to the next phase of construction.
Need more help or information?
Chris: [00:04:56] My name is Christopher Molder. I am a Toronto based mortgage broker and the owner of Tridac Mortgage. If you are looking for more information about construction financing, then I invite you to visit my website, specifically the Construction Resource page, where you’ll find a ton of videos that I’ve done covering various elements of the construction financing process. If you have any questions or would like guidance yourself on setting up construction financing, I’m just a phone call or an email away. Till next time. Bye for now.
If you’d like to discuss your mortgage, you can contact me here or schedule a convenient call time directly into my calendar below.
