Construction projects are complex, challenging, and often unpredictable. As a private lender with more than 10 years of experience funding dozens of commercial construction projects in nine western states, Enact Partners has built a reputation among borrowers for our reliability and expertise. Our extensive background in real estate development, investment, and lending ensures that we understand the unique challenges and opportunities of each project—including those related to construction.
Let’s Talk Budget
One of the most crucial aspects of any construction project—and a key factor in our lending decisions—is the overall budget and timeline. What will the project cost? Where will the funds go? When will it be completed?
While a well-structured budget outlines anticipated costs and steps, it sometimes lacks all-important contingency funding to cover the unexpected. Such a proactive approach to potential challenges, rather than simply relying on ideal scenarios, can often be the key to a project’s success versus its failure due to financial stressors and delays.
The Importance of a Contingency Fund
With any construction project, unexpected expenses are almost inevitable. Whether it’s unanticipated site conditions, design changes, or fluctuations in material costs, these surprises can quickly lead to budget overruns.
A contingency fund acts as a financial buffer that absorbs these extra costs without derailing a project. For us, as the lender, seeing a well-thought-out contingency line item in a construction budget reassures us that the borrower is prepared for and understands the unpredictable nature of construction.
Including a contingency fund in your budget can also influence the speed and likelihood of loan approval. We are more inclined to approve loans for projects that demonstrate thorough planning, as it reduces the risk of financial surprises that could jeopardize completion. This includes a well-prepared contingency fund. To us, it’s a key indicator of borrower readiness and capability to manage the unforeseen.
What Leads to Cost Overruns?
Here are several factors that can lead to budget overruns in construction:
The unexpected—Despite careful planning, the unexpected often occurs. Underground utilities, contaminated soil, or archaeological finds can significantly delay projects, often requiring additional assessments and/or remediation efforts.
Regulatory changes—Sudden changes in local, state, or federal regulations can also halt construction projects. Such changes might require new permits, additional inspections, or modifications to the project to comply with updated safety or environmental standards.
Market conditions—Rising material prices, labor shortages, or unavailability of materials can inflate a budget.
Change requests—Borrowers, property owners, and others may make change requests or adjustments after a project has begun. These can range from something as significant as expanding the size of a building to using materials different from what was planned. Remember, even small changes can have significant ripple effects on costs.
Seasonalities—Weather can wreak havoc on construction projects. Prolonged rain, unsafe heat, and early snow can halt construction. Some areas of the country also allow construction only during certain times of the year.
Delays in other projects—Many borrowers have multiple projects underway at one time. Delays with other projects can divide attention, labor, and resources, slowing down an otherwise well-run, on-time project.
Of course, it’s not possible to plan for everything. For example, the effects of the COVID pandemic and the world’s response to are still being felt today in construction with lingering supply chain and labor supply issues. But by anticipating realistic possibilities and setting aside contingency funds, borrowers can demonstrate foresight and financial prudence, which strengthens loan applications.
How Much Should Be Allocated?
Naturally, the scope of the construction project significantly influences the size of the contingency fund. Larger or more complex projects, particularly those involving remodeling or custom features, may require a higher contingency percentage due to the increased likelihood of unexpected challenges.
While all projects are unique, Enact Partners generally recommends allocating 8% to 10% of the total construction budget for contingencies. This level should provide adequate flexibility to cover most unforeseen expenses without being excessive.
A well-calculated contingency fund ensures that your project remains on track financially, even when unexpected challenges arise. It’s a sign of responsible budgeting, and it shows us that a borrower is committed to completing the project successfully.
The Need to Know
Communicating your contingency plans to everyone involved in the project, including contractors, architects, and project managers, is important, too. It’s a great way to get everyone on the same page in terms of managing expectations and responding to unexpected challenges. This kind of transparency can prevent miscommunications and help maintain project momentum, even when surprises arise.
Consequences of Inadequate Contingency
Failing to allocate a sufficient contingency can have serious consequences. Projects without adequate financial buffers are more likely to face delays, incomplete work, or even total shutdown if unexpected costs spiral out of control. This not only jeopardizes the borrower’s investment but also strains the borrower-lender relationship. A properly planned contingency fund helps avoid these pitfalls, ensuring that a project can proceed without major financial interruptions.
Let’s Build Together
As your lending partner, Enact Partners’ goal is to support your construction project from start to finish. Our experience in financing construction projects allows us to provide valuable insights into potential risks and how to budget for them effectively. Collaborating with us during your budgeting process can help ensure that all aspects of the project are adequately addressed, which can lead to a smoother construction experience and give us the confidence to back your vision. Contact Enact Partners today to discuss your project needs.
(760) 516-7776 | [email protected] | www.enactpartners.com
