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Construction Loan Monitoring Decreases Probability of Loan Default Based on New Study

January 4, 2023
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A greater level of construction loan monitoring can lead to improvements in overall loan default, according to a paper recently published by the FDIC Center for Financial Research. The paper “Bank Monitoring with On-Site Inspections” used a database of nearly 30,000 non-syndicated multiple-draw construction loans over a ten-year period by a single bank to quantify the rate at which banks receive updates on a project’s progress as well as how banks used the information obtained within a construction loan monitoring report to impact their decision making. Proclaimed to be the first study of its kind, the findings of this study verify the long-held theory that the use of construction loan monitoring is an advantage for lenders to lower their financial risk and improve the quality of their loan portfolios.

Based on their findings, the author specifies that if a bank increases its construction loan monitoring by 1% within a 100-day period, the probability of default would decrease by 3.63%. Being that the average default risk within a 100-day period is 5%, the use of construction loan monitoring reduces your level of risk by more than 50%. The information provided within a construction loan monitoring report can allow lenders to manage credit more effectively and incentivize borrowers to complete projects on time and within budget. With construction loans also requiring more administrative tasks and oversight than other loans, having a comprehensive report can help borrowers stay on top of the construction process, construction details, and local market conditions.

Although this study looked at primarily residential properties, the information gained gives great insight into the overall risk lenders face on all loan types. Highlighting a bank’s involvement in CRE deals, the author reports that, “lending in commercial real estate (CRE) has increased as a share of bank balance sheets over time, with the largest proportional increases occurring in small banks.” Further, the author emphasizes the riskiness of CRE loans by stating that, “CRE lending is inherently risky, and construction and land development (CLD) loans are widely considered the riskiest sub-category of such bank lending.” As banks continue to see a rise in CRE lending, the need for construction loan monitoring will remain a vital resource for these types of loans.

Construction loan monitoring may seem like a complex task, but with a professional construction consultant on your side, you can be confident knowing someone is looking out for your financial interest. At Moran Construction Consultants, our 50 years of industry experience have afforded us an incredible range of expertise. With projects across the country, we have a unique perspective on national and local market trends. Our extensive database of project information allows us to make current, accurate, and timely comparisons of similar projects in any market. Our dedicated and responsive team consistently meets the national demands of our customers with local market knowledge. Give us a call at 225-315-2003 or contact us online to learn how we can help safeguard your investment.

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