Construction lending at Directions Credit Union ($662.6M, Sylvania, OH) isn’t a big business of a $230 million real estate lending portfolio the credit union originated $29 million in construction loans in 2015 and currently has $17 million worth of these loans in progress but it is a growing business, one that meets a member need.
The community chartered credit union, which has 19 branches scattered around Toledo and northcentral Ohio, started its construction loan program more than 15 years ago, says Tim Crosby, the credit union’s senior vice president of lending. But demand for these loans has spiked in recent years as members recover from the Great Recession. According to the National Association of Home Builders, in March 2016, the Toledo metropolitan area saw a 30% uptick in single-family and multifamily building permits issued year-over-year.
The demand we see for construction loans is threefold, Crosby says. Homeowners are looking to move up, but there’s a lack of inventory for homes within a certain price range. Additionally, homeowners can currently build a new home for about the same price they would pay for buying an existing home. So they build their own.
CU QUICK FACTS
Directions Credit Union
Data as of 12.31.15
- HQ: Sylvania, OH
- ASSETS: $662.6M
- MEMBERS: 74,797
- BRANCHES: 19
- 12-MO SHARE GROWTH: 5.94%
- 12-MO LOAN GROWTH: 8.50%
- ROA: 0.54%
Directions relies on online and other traditional marketing channels. But the primary way it reaches members is through local builders.
According to Crosby, the credit union has earned a positive reputation among its local builders as being a good partner. That helps when builders recommend financing options to their clients. But sometimes builders need a little more.
They want service, Crosby says.
Homeowners are looking to move up, but there’s a lack of inventory for homes within a certain price range…So they build their own.
Directions does not pay a referral fee. Instead, its loan originators build relationships by taking builders out for meals and recreational outings and pitching them on the credit union difference. This helps communicate to builders that if they have an issue, they can go to their contacts at the credit union and resolve it.
Once a builder refers a client to Directions, the credit union’s team of four originators, four processors, one closer, one underwriter, and one quality control officer work to approve the new member and start the loan process.
Directions offers a one-time closing on its construction loan as opposed to the more common two-time closing. In a two-time close, the borrower signs twice. The first closing occurs before building begins and covers the rate and term of the loan during the construction period, typically six to nine months. The second closing occurs after the build is complete. This is a permanent loan that could have a different rate or term from the first closing. It could also require the borrower to requalify.
For a one-time close, the borrower signs once during the construction period and locks down the rate and term.
A one-time close is a convenience to everyone, Crosby says. It’s less expensive for members as they don’t have duplicate closing fees and more efficient.
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Underwriting standards are a little tighter for construction loans versus traditional mortgages, which is why these borrowers tend to be above average in terms of credit qualification and income. The majority of these borrowers are also prior or existing homeowners.
Construction loan borrowers have, on average, 768 credit scores, DTI of 30%, and an LTV of 77%, according to Crosby. On non-construction loans, these averages are 736, 33%, and 73% respectively.
The credit union’s average construction loan runs approximately $234,000 versus a traditional mortgage of $140,000, according to Crosby. Plus there are typically additional, tangential costs associated with home construction.
They’re probably going to need new furniture in their budget, Crosby says. So we make sure they have a strong ability to repay and a cushion to make purchases associated with buying a home.
Digging The First Hole
The two principal third parties involved in the construction process, aside from the credit union, are the builder and the appraiser. And the credit union only enters into business with those it trusts.
Directions uses a list of 48 approved builders of which it has received business from 34 in the past 12 months. To make it on the approved list, builders must have at least three years of building experience and show a measure of financial stability and professional reputation. For appraisers, the credit union makes sure they have experience in construction.
An often-overlooked part of home construction is the draw process. Construction lenders, like Directions, do not typically disburse the entire amount of a construction loan at the time of closing or on the project start date. Instead, the credit union releases a portion of the loan a draw to the builder upon completion of a pre-designated stage. Directions has a full-time employee who manages its construction draws.
Directions’ construction contracts consist of five draws that coincide with five stages of property completion. For example, the builder triggers the first draw when it digs and lays the foundation. In some cases, however, the builder will ask for a smaller, initial draw at closing to help cover miscellaneous fees relating to permits, says Crosby.
Before the credit union pays a draw, however, it sends an appraiser to the building site to inspect the build. The appraiser then provides Directions with an inspection report that verifies the builder has completed the contracted work and no liens have been taken out on the property.
The appraiser also provides an affidavit to the member confirming the work was done and they are happy with it. Once the member signs the affidavit, Directions pays the builder. This is repeated at each draw stage until construction is complete. (Click here to see the affidavit).
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Terms And Performance
Directions’ construction loan has a similar rate and term to a traditional mortgage. The credit union offers a fixed-rate product with a term of 10, 15, 20, or 30 years. It’s a conservative way to price this product, Crosby says, but it’s what 99% of borrowers are looking for.
In 2014, the credit union made 55 construction loans worth a total of $15 million. In 2015, that jumped to 103 loans worth $29 million. There’s a reason Directions effectively doubled its construction lending year-over-year.
Also contributing to the building boom, as Crosby calls it, is an improving economy that has given residents of the Toledo and northcentral Ohio areas more confidence in their income and job stability to wit, unemployment in Toledo has improved from 12.6% in 2009 to 6.8% in 2014. Finally, homeowners whose mortgages have been underwater have earned back some equity and are now considering moving into a nicer house.
The economy has gotten better, he says. Now homeowners are saying, I’m ready to build a home.’