How Construction Loan Draw Schedules Work

A construction loan draw schedule is a payment plan that outlines when funds from a construction loan will be dispersed to the contractor building a home or other structure. Rather than paying the full amount upfront, draws are tied to the completion of certain milestones or phases of the project. This helps ensure the work is progressing as planned before additional funds are released.

What is a Draw Schedule?

With a construction project financed by a loan, the lender will put together a draw schedule that links loan disbursements to completion percentages or milestones. For example, the first draw may be released after the foundation is poured and inspected Subsequent draws may be tied to completion of framing, roofing, rough plumbing and electrical work, insulation, drywall, flooring, etc

The draw schedule serves a few key purposes

• It spaces out payments so the contractor has funds to continue work, while ensuring the owner/borrower does not pay too far ahead of completed work.

• It allows the lender to inspect progress before releasing additional funds, reducing risk.

• It provides a roadmap for how the project will be funded over time.

• It establishes clear expectations between the owner, lender, and contractor about the payment process.

The number of draws and frequency of payments depends on the project size and complexity. A typical home construction project may have 5-7 draws while a larger commercial project could have draws every 1-2 weeks.

Creating the Draw Schedule

The draw schedule is typically created early in the construction loan process, after plans have been completed and a contractor bid accepted. It starts with a cost breakdown, called a schedule of values, that lists all the major components of the project with values assigned to each. The total of all values should equal the total construction cost.

From the schedule of values, draws are structured around logical breaking points in the construction timeline. The lending institution will specify what milestones need to be reached to release a payment. For example:

• Draw 1 – 15%: Permits approved, excavation/site work, foundation formed
• Draw 2 – 15%: Foundation poured and inspected, slab completed
• Draw 3 – 20%: Framing, rough mechanicals, exterior sheathing
• Draw 4 – 15%: Roofing, windows installed
• Draw 5 – 20%: Insulation, drywall, cabinets, finishes
• Draw 6 – Final 10%: Punchlist, final inspections

In some cases draws may be based on a percentage of completion rather than milestones. This can work for simple projects but milestones provide more clarity.

The builder or contractor will propose an initial draw schedule based on the construction timeline. This is negotiated with the borrower and lender until all parties agree. Some key considerations when structuring the payments include:

• Local laws or regulations regarding down payment amounts
• The contractor’s upfront material and mobilization costs
• The builder’s preferences for timing of payments
• The owner’s desire to retain enough funds to complete work if needed
• The lender’s draw processing requirements and inspection fees

It’s important to strike the right balance so both contractor and owner feel it is fair.

Submitting and Approving the Draw Requests

Once construction kicks off, the contractor will submit a request or “draw” for each scheduled payment once the required milestone or percentage of completion has been reached. This typically involves filling out a one-page form that identifies the draw number, work completed, and amount requested.

The borrower then contacts the lender, who sends out an inspector to visit the site and verify the completion percentage claimed before approving the draw. The inspection fee, often $100-$500, may be taken from the draw amount. Photos of the progress are usually required as well.

The lender will review the inspection results and either approve the requested draw, approve a partial amount, or deny the draw if the work is inadequate. Approved funds are usually wired to the contractor within 1-5 days of the request.

Key Aspects of the Draw Process

There are several important elements that help the draw process go smoothly:

Lien Waivers – Each draw is often contingent on the contractor signing a lien waiver confirming subcontractors have been paid for past work. Some lenders require subcontractor lien waivers as well. This protects the borrower.

10% Retainage – Most lenders hold back 10% of each draw until the end of the project. This retainage ensures funds are available to finish the job if the contractor fails to complete work.

Draw Request Dates – Draws are usually limited to 1 per month, on a specific day, to allow the lender to efficiently schedule inspections.

Change Orders – Any changes that alter the project scope or schedule may need to be submitted as change orders and approved by the lender before funds are committed.

Final Draw – The last 10-20% is often released only after passing all final inspections and issuing a certificate of occupancy.

Joint Checks – If there are concerns about subcontractors being paid, the lender can issue draws as 2-party checks requiring both contractor and sub to sign.

Careful management of the draw process is critical to keep construction on track and prevent misunderstandings around payment.

Troubleshooting Draw Issues

Despite best efforts, sometimes problems arise during the draw process:

• The contractor may request draws ahead of completing the work. This should not be allowed.

• An inspection may fail, requiring work to be redone before re-inspection. This will delay payment.

• The contractor may threaten to stop work if a draw is delayed. This needs to be handled delicately.

• Unapproved change orders can derail the draw schedule. Only essential changes should be allowed mid-project.

• Weather or other delays may impact the timeline and require adjusting the draw schedule.

• The owner may question costs of materials or labor and want to delay payment. Invoices should be provided to resolve this.

Good communication is key to resolving any disputes over payments. Most issues can be worked out with an open dialogue between owner, lender, and contractor.

Benefits of Structured Draws

While the draw process requires careful oversight, the benefits are significant:

• Phased payments give the contractor needed working capital without requiring a large down payment.

• Inspections ensure the quality of work at key milestones.

• Retaining funds motivates timely completion.

• The payment structure is clear to all parties before construction starts.

• Lien waivers provide assurance subs/suppliers are being paid.

• Change orders are controlled and limited by the lender.

• The owner is protected if the contractor fails to finish the work.

For both lenders and owners, a well-managed construction draw schedule provides significant financial protection and minimizes risks on a building project. This leads to a smoother overall construction process.