How to Manage a Construction Loan

Managing a construction loan requires rigorous draw administration with complete documentation verification, independent third-party inspections confirming work completion, and proactive risk monitoring of budgets, timelines, and title status. The key is requiring verified completion before funding, maintaining covenant compliance throughout the project, and using integrated software like Sekady to centralize and automate the entire process from request through disbursement.

Construction Loan Management: The Complete Framework

Construction lending is fundamentally different from other types of lending. The asset (the building) doesn't exist at loan origination—it's being created. The borrower's ability to complete the project is critical. The risks are substantial and evolving throughout construction.

Managing a construction loan successfully requires discipline, systems, and constant vigilance.

The Three Pillars of Construction Loan Management

Pillar 1: Rigorous Draw Administration

Draw administration is where most construction loan problems either get prevented or created. Poor draw administration is the root cause of over-funding, fraud, and disputes.

What rigorous draw administration looks like:

Only release funds for work that is verifiably complete. This means:

• Requiring full documentation for every draw request (invoices, receipts, lien waivers)
• Never funding incomplete or unverified work
• Maintaining discipline in the process
• Keeping the loan in balance

How to implement:

1. Create detailed Schedule of Values (SOV) during loan origination
   • Break project into specific work phases
   • Assign dollar amount to each phase
   • Get approval from lender, borrower, and contractor
   • Lock it in—no changes without formal change order
2. Require complete draw request packages
   • Don't accept partial submissions
   • Specify exactly what documents are needed
   • Contractor submits all at once, not piecemeal
   • System should prevent submission of incomplete packages
3. Verify every document
   • Invoices match work claimed
   • Lien waivers are signed and current
   • Photos show work actually being done
   • Change orders are approved and reflected in SOV
4. Pay only for verified work
   • Never fund based on contractor's word
   • Always require inspector verification
   • Only fund what inspector confirms is complete
   • If contractor claims 100% but inspector verifies 90%, only fund 90%
5. Maintain clear records
   • Document every draw with photos, invoices, waivers
   • Keep records organized and searchable
   • Maintain audit trail of decisions
   • Create permanent project file

Why it matters: Disciplined draw administration prevents 80% of construction loan problems. Over-funding, incomplete work, fraud—most occur because lenders didn't maintain discipline.

Pillar 2: Independent Verification

The second line of defense is independent verification. You cannot rely on the contractor's claims about work completion.

What independent verification includes:

1. Third-party inspections
   • Inspector has no financial stake in approval
   • Inspector is experienced in construction
   • Inspector verifies work against construction plans
   • Inspector confirms work meets specifications
2. Objective verification criteria
   • Define exactly what "complete" means for each milestone
   • Not vague (framing "done") but specific (all studs installed, all joists installed, sheathing complete, windows set)
   • Inspector uses these criteria consistently
   • Removes ambiguity and disputes
3. Comparison of claims vs. reality
   • Contractor submits photos showing claimed completion
   • Inspector takes their own photos
   • Compare contractor's photos to what inspector actually sees
   • Discrepancies are flagged and resolved
4. Quality verification
   • Inspector checks work quality against specifications
   • Looks for defects, improper installation, code violations
   • Can require rework if quality is inadequate
   • Documents findings
5. Real-time reporting
   • Inspector reports findings immediately
   • Not days later after returning to office
   • Digital tools enable same-day reporting
   • Issues are flagged immediately, not discovered later

Why it matters: Inspector verification is your primary defense against fraud and overpayment. An independent verification means you have objective proof work was done.

Pillar 3: Proactive Risk Monitoring

The third pillar is continuous monitoring throughout the project. Problems often sneak up—you're monitoring fine one month, then crisis hits the next month.

What proactive monitoring includes:

1. Budget monitoring
   • Track actual spend against planned budget
   • Monitor each line item (foundation, framing, MEP, etc.)
   • Watch for variances (% over or under budget)
   • Alert when variance exceeds threshold
   • Assess contingency remaining
2. Schedule monitoring
   • Compare actual progress against baseline timeline
   • Track days ahead or behind schedule
   • Identify critical path delays
   • Forecast completion date based on current pace
   • Understand impact on budget and cash flow
3. Contractor performance monitoring
   • Track payment history (do subs get paid on time?)
   • Monitor work quality (inspection findings)
   • Assess communication responsiveness
   • Watch for signs of financial stress
4. Compliance monitoring
   • Insurance maintained (current certificates on file)
   • Permits obtained and up to date
   • No liens filed against property (title searches)
   • Lien waivers collected
   • No unauthorized changes
5. Covenant compliance
   • Budget staying "in balance"
   • Loan-to-value ratio maintained
   • All draws within approved schedule
   • All conditions being met
6. Title monitoring
   • Regular title searches (monthly or before each draw)
   • Alert system for new liens
   • Quick action if liens appear
   • Protects first-lien position

Why it matters: Early detection of problems enables early intervention. A budget overrun caught at 30% completion can be addressed. The same overrun caught at 80% completion forces difficult decisions.

The Complete Construction Loan Management Process

Phase 1: Origination and Setup (Before Construction Starts)

Step 1: Detailed Analysis

• Thoroughly underwrite the project
• Understand the construction budget in detail
• Assess contractor experience and financial strength
• Identify potential risks
• Get comfortable with the deal fundamentals

Step 2: Create Detailed Documentation

• Loan agreement with clear terms
• Construction loan schedule detailing draw schedule
• Detailed Schedule of Values (SOV) with specific phases
• Define exactly what triggers each draw
• Specify exactly what documentation is required
• Define covenant requirements

Step 3: Establish Systems and Processes

• Set up software/platform for loan management
• Configure approval workflows
• Set up communication with contractor
• Identify inspector (if using third-party)
• Create monitoring and reporting schedule

Step 4: Contractor and Team Alignment

• Review loan terms with contractor
• Ensure contractor understands draw process
• Clarify what documentation is required
• Establish communication protocols
• Confirm inspector and inspection process

Phase 2: During Construction (Active Loan Management)

Step 1: Draw Request Submission

• Contractor submits draw request with documentation
• Request includes invoices, photos, lien waivers, change orders if applicable
• System validates completeness of submission
• System checks against budget to ensure within limits

Step 2: Inspection Scheduling

• Upon draw request submission, inspection is scheduled
• Inspector is assigned based on location and availability
• Inspector receives project details and contractor's photos
• Inspection is scheduled to occur quickly (ideally next business day)

Step 3: Inspection Execution

• Inspector visits site
• Verifies work against contractor's claims
• Compares to construction plans and specifications
• Takes photos and documents findings
• Notes any quality issues or discrepancies
• Reports percentage of work actually verified complete

Step 4: Comparison and Discrepancy Resolution

• System compares contractor's claim to inspector's verification
• If they match (or are close), proceed to approval
• If material discrepancy exists (contractor claimed 100%, inspector verified 80%), investigate
• Require contractor explanation or resolution
• Only approve for verified amount, not claimed amount

Step 5: Covenant and Compliance Check

• Verify budget is in balance (draws don't exceed approved budget)
• Verify all prior lien waivers are on file
• Verify insurance is current
• Verify permits and inspections are current
• Verify loan-to-value is still acceptable
• Flag any covenant issues

Step 6: Approval Decision

• If everything checks out, approve the draw
• If issues exist, resolve before approval
• Document approval decision and reasoning
• Route for payment

Step 7: Payment Processing

• Draw is funded through approved payment method (ACH, wire, check)
• Payment confirmation sent to contractor
• Financial records updated
• Remaining budget recalculated

Step 8: Documentation and Record-Keeping

• Draw request and supporting documents filed
• Inspection report filed
• Payment records maintained
• Approval documentation filed
• Audit trail created

Step 9: Monitoring and Reporting

• Monthly review of project status
• Budget vs. actual analysis
• Schedule vs. actual comparison
• Covenant compliance status
• Risk assessment
• Communications with contractor and stakeholders

Phase 3: Project Completion

Step 1: Final Inspection and Punch List

• Final inspection verifies project is complete per plans
• Any punch list items are identified
• Contractor corrects punch list items
• Final inspection approval obtained

Step 2: Final Draw Request

• Contractor submits final draw for any remaining funds
• Includes final documentation
• Final inspection confirms completion

Step 3: Final Documentation Collection

• All lien waivers collected (unconditional final waivers)
• All permits and inspections filed
• Insurance current
• All change orders documented
• All records organized

Step 4: Loan Closeout or Conversion

• If construction-to-permanent loan, convert to mortgage
• If standalone construction loan, establish payoff plan
• Ensure permanent financing is in place
• Close out construction loan

Key Best Practices for Construction Loan Management

Best Practice 1: Define Everything Upfront

Before construction begins, define:

• Exactly what triggers each draw
• Exactly what documentation is required
• Exactly what "complete" means for each phase
• Exactly what happens if work is incomplete or quality is poor
• Get contractor agreement on all of this

Why it matters: Ambiguity creates disputes. Clear definitions prevent disputes.

Best Practice 2: Use Checklists and Standardized Processes

Create checklists for every draw:

• What to check
• In what order to check it
• Who checks it
• When to complete the check
• What to do if something doesn't pass the check

Why it matters: Checklists prevent steps from being skipped. Standardized processes ensure consistency.

Best Practice 3: Maintain Complete Documentation

Every decision should be documented:

• Why the draw was approved or denied
• What inspector found
• What discrepancies were resolved
• Communications with contractor
• Changes to original plan

Why it matters: Documentation protects you if disputes arise. Creates audit trail. Shows you did your job properly.

Best Practice 4: Monitor Continuously

Don't wait for monthly reviews to check on project. Monitor continuously:

• Daily dashboard review
• Weekly calls with contractor
• Monthly detailed project review
• Alert to issues immediately

Why it matters: Small problems caught daily are easily fixed. The same problems caught monthly may have become critical.

Best Practice 5: Communicate Proactively

Don't just tell contractor what you need. Explain why you need it:

• Explain draw process upfront
• Explain documentation requirements
• Explain inspection process
• Maintain regular communication
• Address issues collaboratively

Why it matters: Contractors who understand the process cooperate better. Disputes are less likely.

Best Practice 6: Take Action on Red Flags

When you see red flags, act immediately:

• Budget variance—investigate and address
• Schedule delay—understand cause and impact
• Quality issues—require correction
• Contractor struggles—increase monitoring
• Compliance issue—resolve immediately

Why it matters: Early action prevents escalation. Problems addressed at month 2 don't become crises at month 10.

Best Practice 7: Use Technology and Automation

Don't manage construction loans with spreadsheets and email:

• Use platform designed for construction loans
• Automate draws, inspections, approvals
• Use real-time dashboards for visibility
• Maintain complete digital records

Why it matters: Manual processes are error-prone and time-consuming. Automation eliminates errors and saves time.

Common Construction Loan Management Mistakes

Mistake 1: Funding Incomplete Work

"The contractor says it's complete, so we'll fund it."

Problem: Contractor claims 100% complete, but work is only 80% complete. Draw is funded anyway. Later draws can't be funded because they're dependent on prior work being complete. Budget gets depleted without proportional progress.

Solution: Always require independent verification before funding. Only fund for verified completion, not claimed completion.

Mistake 2: Weak Documentation

"We don't need all that paperwork. We trust this contractor."

Problem: Without documentation, you can't prove work was verified before funding. If problems arise, you have no defense. If contractor claims they weren't paid, you can't prove otherwise.

Solution: Require complete documentation for every draw. Maintain organized records.

Mistake 3: No Budget Monitoring

"We'll check the budget at the end of the project."

Problem: Budget is over-spent by 20% before anyone notices. By then it's too late to correct. Lender is forced to not fund final draws or over-fund the project.

Solution: Monitor budget continuously. Alert the moment variance exceeds threshold. Address issues immediately.

Mistake 4: Ignoring Red Flags

"The schedule is slipping, but we'll see how it goes."

Problem: Schedule continues to slip. By project end, it's 6 months behind. Contractor is out of money. Project stalls. Lender is stuck.

Solution: Address delays immediately. Understand cause. Assess impact. Require recovery plan.

Mistake 5: Weak Contractor Relationships

"We're the lender. We don't need to communicate with the contractor much."

Problem: When issues arise, contractor is defensive. Communication breaks down. Disputes escalate. Relationship becomes adversarial.

Solution: Maintain proactive, collaborative communication. Address issues jointly. Build relationship of transparency.

Mistake 6: Manual Processes

"We've always managed loans with spreadsheets and email."

Problem: Prone to errors. Time-consuming. Delays in approval. Lack of visibility. Manual mistakes (typos, missed items) cause problems.

Solution: Use software designed for construction loan management. Automate what can be automated.

Mistake 7: Inadequate Monitoring

"We have monthly reports. That's enough."

Problem: By the time monthly report is prepared, issues from earlier in the month aren't addressed. Things that are changing aren't reflected in reports from earlier weeks.

Solution: Real-time dashboards provide immediate visibility. Issues are caught as they occur, not after the fact.

How Sekady Helps You Manage Construction Loans

Sekady consolidates all construction loan management in one integrated system:

Draw Administration

• Standardized draw request process
• Automatic documentation validation
• Budget checking on every request
• Lien waiver tracking and enforcement
• Complete draw history

Inspection Management

• Automatic inspection scheduling
• Mobile app for inspectors
• Real-time reporting
• Photo documentation with geotagging
• Comparison of contractor claims vs. inspection findings

Risk Monitoring

• Real-time dashboards showing project status
• Budget vs. actual tracking
• Schedule vs. actual tracking
• Covenant compliance monitoring
• Automated alerts for issues

Documentation and Records

• Complete audit trail of all decisions
• Organized file for every project
• All documents in one place (never lose anything)
• Searchable records

Reporting

• Automated report generation
• Customizable stakeholder reports
• Dashboard for at-a-glance status
• Trending and forecasting

Communication

• Built-in messaging with contractor
• Status updates automatically sent
• Clear communication history
• No lost emails

Conclusion: Construction Loan Management Requires Discipline and Systems

Construction loans are complex. They require:

1. Rigorous draw administration with complete documentation
2. Independent verification of work completion
3. Proactive risk monitoring throughout

Combined with clear processes, complete documentation, and continuous monitoring, you can manage construction loans successfully and minimize risk.

Sekady provides the systems and automation to implement these best practices consistently across your portfolio.

Ready to improve your construction loan management? Learn how Sekady centralizes and automates the complete loan management process by visiting our FAQ page or scheduling a demo to see the complete workflow in action.