Practical Law Glossary Item 0-507-0634 (Approx. 3 pages)
A short-term loan, usually three years or less, obtained by a borrower to finance the construction of real property or a project. Construction loans are primarily used in real estate and project finance transactions but are structured somewhat differently. In the context of:
A real estate transaction, this is also known as a building loan, development loan or a construction mortgage and is secured by a mortgage on the real property to be developed. The lender usually disburses the construction loan funds over a period of time as the different phases of the construction project are completed and the borrower has met certain conditions precedent. A real estate construction loan generally is either:
satisfied, when the project is completed and permanent financing is obtained to pay off the construction lender; or
a combination loan that is a construction loan in the beginning and then becomes a permanent loan when the project is completed.
A project finance transaction, these loans are secured by all of the borrower's (also known as the project company) rights in and to the project being built and the project documents (including the engineering, procurement and construction (EPC) contract, the concession agreement or offtake agreement and, to the extent permitted under applicable law, permits and licenses). This loan is disbursed periodically to enable the project company to meet its obligations under the EPC contract. Once construction is completed, the loan is either:
converted into a term loan by the same lenders, subject to the satisfaction of certain conditions precedent (for example, the debt-to-equity ratio does not exceed a certain amount); or
refinanced with long-term financing (whether term loans, term B loans or project bonds).