Innovative Real Estate with Three Squared, Inc.
As specialists in efficient residential and commercial prefabricated design, Leslie Horn, Breck Crandell, and Jill Ramirez of Three Squared, Inc. share their greatest insights, tips, and case studies from their years of experience in the industry. They'll be giving you their best advice through, trainings, guest features, and Q&A segments so you can turn your innovative vision to a reality.
Innovative Real Estate with Three Squared, Inc.
Everything You Need To Know About Financing Your Project
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Financing and funding innovative projects can be challenging if you've never done it before (read: you don't know what you don't know).
That's why we want to share our expertise in this episode to answer some of the most frequently asked questions that come up about funding both residential and commercial projects.
Here's a glimpse of what you'll learn from us in this episode:
- What a pro forma is and why it is important.
- Preparedness and experience lead to success.
- Everything that goes into your capital stack.
- Getting pre-approved by your bank.
- Breck's project highlight of the week: The Hemptons!
For behind the scenes content and project updates follow us @threesquaredinc on Instagram.
Have a vision in mind and ready to get started? Contact us here so we can put you in touch with the right member of our team.
Find the full show notes to this episode here.
To learn more about where to start when thinking about building an innovative project check out these supplementary podcast episodes!
1) FAQ Session: Your Quick Start Guide To Container Home Foundations, Insulation, & Roofing
2) Best Advice For Beginner Developers: How to Start & How Much It Will Cost
Ready to move forward with your project? Contact us here and we will put you in contact with the right member of our team.
Make sure to follow us on Instagram, Facebook, and LinkedIn to stay up to date on new project releases, trainings, and more.
Welcome to the Innovative Real Estate Podcast with your hosts Leslie Horn, Brett Crandall, and Claire Olilla. We're here to make your life easier as a real estate developer and teach you everything we've learned about designing and building innovative homes, multifamily, and mixed use structures. On this podcast, we'll be giving you our best advice, trainings, and QA segments so you can learn from our years of experience and make your innovative vision a reality. Welcome back to another episode of Innovative Real Estate with Three Squared Inc. As usual, you've got Claire, me. We've got Leslie, Three Squared's CEO, and Breck, our trusted director of design, here to teach you all about financing on today's episode. We're very excited for this episode. It's going to be more of a training style episode because we get many questions around how to finance projects, around how it works, our best advice or tips and tricks and things like that. So that's what today's episode is going to be focused on. And just to kick things off, we always start off these episodes with our project highlight of the week. So, Mr. Breck.
SPEAKER_01This week we've got a cool project coming in, upstate New York, uh, which we're pretty excited about. It is a company that is actually a hemp farm. Uh, it's a really cool little space called the Hemptons. And on this farm, they have a couple of buildings. They actually have a tiny house that they rent out, and then they have this old school house that they tried so hard to save, but the uh, you know, the wood bugs got into it and it's just kind of crumbling from the inside out, and they just they can't save it. So, what we are gonna do is we're gonna save the foundations and we're gonna put containers on top of that foundation to build a single family house that will also be up for rent sometimes. Actually, now that the design's done, they're not sure if they're gonna rent it out or just stay in it. But it's uh it's a really cool uh three-bedroom, two-bath, uh with a walkout deck that has just gorgeous views of the property. There's a pond right behind it, and you can see uh the fields where they actually grow the hemp. And um, I got the pleasure of uh actually visiting them and and staying on the property, and I woke up just surrounded by deer, just everywhere around you. You know, it's just such a glorious property, and uh, we're really excited to be involved in that one. We just finished the design, so we'll be launching that one on social media very shortly, and then um we're jumping right into construction documents because they want to break ground as soon as spring rolls around. So very excited on the Hemptons project and stay tuned for more.
SPEAKER_00Yay! Nice, super exciting. Check out in the bottom if there's a link. We'll link it if we've got it up yet. Thank you, Breck. All right, and now for one more quick intro before we get into the bulk of this episode. We always include a contact form at the bottom of these podcast descriptions. Very important if you're listening and tuning into these episodes, or if you have been tuning in for a while and you're ready to actually speak with our team and get going with your design, then we'll just guide you down into the description of this podcast and we will have our contact form link right there for you, easy peasy. It'll just ask you a couple questions to share about your project, your vision, where you're at in the process, and we will connect you with the right member of our team to help you get started. And there you have it. So without further ado, Leslie Horn.
SPEAKER_02Yeah, let me get this kicked off here because oh my gosh. So funding and financing, um, it's super important, and we can kind of take this into two or even four quadrants. Um, I've been thinking about this since we um wanted to launch this podcast on financing projects. And, you know, we can go into residential. That that's uh that's a probably the pretty fast, the fast one. And then there's commercial, and then within your residential and within your commercial, you have subdivisions. Are you an experienced developer or is this your first time building your own house? Um, and and such. And so let's let's kind of just go through and Breck, I think you can, I I know you'll be able to add a lot to this because actually you're going through it. Um, and when it comes to uh residential build, you know, the the timing of of projects are super important before you can even get a bank to give you money, you have to have a permit. That is the that is the point of when your financial draws, the monies come in from the bank. Now, there's a whole whole process that leads up to this. So let's talk about the residential. Um, and as a uh as a first time or actually even a an experienced person who's actually built their own house a couple, two or three times, the big key is to get pre-approval from your bank. How much can you afford? We've gone through the experience where our clients just assumed that um they were able to, since they thought they could afford a you know $800,000 house, we just designed an $800,000 house only to find out, you know, because of the banking institution rules, they were only, you know, I think qualified for $450,000 or $500,000. So, you know, knowing those parameters up front is super important. The other key to this is you do not say I'm building a shipping container house. It is a steel-framed house. Um, that is really, honest to goodness, the the key in preliminary conversations with your bank. Breck, I think I want you to go ahead and talk more because you've got the current experience right now and how because you're you're getting ready to construct your house.
SPEAKER_01Well, what are the three questions that I ask at the kickoff meeting at the very beginning of every single project? It's where are we building? What are we building, and how much money do we have to build it? And there's a very specific reason why I ask it that way is because you need to know how much money you have access to. Just like Leslie said, I mean, we have designed projects that came in at a budget that they couldn't even get financing for in the first place. So it's it was just a futile effort. Like if we're designing something based on a budget that's fictional, I mean, a lot of people come to us and go, How much is this gonna cost? And it's like, well, that's that's a terrible way of thinking about it. It's how much how much money do you have realistically so that we could design something that fits your budget? Because that's gonna make a project actually happen. So pre-approval tells you how much money you generally have access to, especially given smaller projects. If it's a bigger project, you're likely only going to be able to pull a portion of the funding that you're going to need. And you're either going to need to have investors or a partnership with an entity that's going to be able to close that gap. If it's your first rodeo, you're probably going to have to partner with somebody else who has the experience because the bank is basically looking at do you know what you're doing? Do you have experience? Is it going to make sense? So they're actually going to appraise anything that you come to them with. So right now, I'm building my own house. It's my own design. It is a steel-framed building. It is not shipping containers, contrary to all prior beliefs. Uh, but it is uh it's a very unique house that's using a steel frame. And uh, so they're going to look at the design of the house. They're going to look at how many bedrooms, how many bathrooms, they're going to do a market analysis of the real estate in my area because they're not going to fund something that doesn't make sense. If I told them I'm building a 15-room with one bathroom house, they'd be like, uh, you're not getting any money from it. That makes absolutely no sense. Because ultimately, whatever the bank lends you, they have to guarantee that they can get that money back if something goes wrong. That's the whole purpose of this. So they're looking at your design. They're also going to ask you, who's your builder? They're going to vet your builder. They're going to find out like, is this a real builder? Are they licensed, bonded, insured? Do they know what they're doing? Have they built other projects? They're actually going to look at the budget that's put together for the house to make sure that there's no glaring issues. It's like, oh, I budgeted $5,000 for my roof. It's like, uh no, that's that's wrong. So they're going to look very closely at a lot of these things. And I cannot stress this enough. The actual closing of a loan, whether it's commercial real estate or single family residential, is going to take longer than you think it will. And so you need to be prepared for this. We have projects right now that we have a building permit in hand and we are just sitting on our hands, just waiting for the bank to come around because this vetting process used to take a long time. Now, after the pandemic, number one, you know, banks are really, really shy about who they give their money to and why they give it to them. And two, it just the process takes an extremely long time to like finalize and to close on. And so you have to be prepared for that delay. And if you get that done earlier and just, you know, fill in the blanks and feed them information as you get it, you'll have that long-standing relationship with the bank. They'll understand the project much better. And you're more likely to close on that loan at the appropriate time.
SPEAKER_02And Breck, let me add a couple of pieces to this because it's really important. The banks also want to know that you've got skin in the game, so to speak, that you not only own the land, but that's your collateral. How much money are you putting into the project yourself? Is it 20%? Is it 30%? And, you know, you can get a VA loan. I mean, we're working with some veterans now and some veteran housing projects where, you know, they're they're getting their projects pre-approved with through a through a veteran's letter, um a VA approved letter, I should say, um, and able to take that to the bank. But here's the big piece. You can expect, let's say you've got a project. I'm just using simple numbers for a single family house, all right? Let's say you've got a house that's $400,000. Out of that $400,000, and let's say that's your total budget. So you're building a 1,200 square foot house. Out of that $400,000, your total all-in budget, I'm gonna tell you, share with you about $80,000 of that. $80,000 to $100,000. I'm gonna put a little range in there, are monies andor equity that you have to have in advance before you even break ground. Breck, was that number true for you?
SPEAKER_01That number's very true. I mean, not only do I have to purchase the land, but like there's a lot of due diligence. Like you need to understand the site which you are trying to develop. So there are a lot of costs into that. There's environmental studies to tell you if that if there's any hazardous conditions on the site. There's a site survey to actually like show you the boundaries of the property and to make sure that there's no glaring issues, which sometimes there are, and you discover those through a site survey. Um the there's a lot of uh, you know, soil analysis, and depending on how large your projects are, you're gonna have to have soil borings, geotechnical analysis. There's a lot of there's a lot of money that needs to be paid before you can even start a project. And I think a lot of people kind of go into this thinking that it's it's all gonna be zero dollars down and a bank's gonna loan them money. Like you're totally right, Leslie. I mean, the more money that you have towards your loan, the better off you're gonna be. It's very typical that it's 10% or higher. So if you don't have in your pocket 10% of what the total building cost is gonna be, you might need to rethink how you're going about this and maybe take a slightly different position. So, all of this so far has been regarding smaller financing, closing on a loan where you just provide your tax history and all of your income. And they're basically doing a profits and losses statement and running your credit to tell you what they think that they are comfortable loaning you. That's a pretty easy process when we're dealing with single family projects, smaller commercial projects. But when we get into the bigger stuff, when we get into more complicated stuff, there's a there's a term out there that I know about a third of us are familiar with. But for the rest of our audience here, I would like you to explain in as concise a way as you can what the heck a pro forma is and why it's important.
SPEAKER_02Oh, holy smokes, yeah. You know, a pro forma is really your budget. It's it's all it and it's important to, as an experienced or even a new developer, you have to have all of your like, what is this project really going to cost? And so let's let's just use um, we've got a couple of good examples. I'm not gonna put project names to them, but you know, let's say we're doing a 50-unit apartment complex. All right. I did a mix here between two. So let's say that project's gonna cost, I don't know, eight million dollars. Now, how did we just come up with eight million dollars? All right. That was just a really good guess. But in a pro forma, you are not only going to have your cost of construction, and you're gonna need a design before you can actually even put that cost of construction in, but you're gonna have all these little line items. There's probably 300 line items in a pro forma. It is the one document that your lending source, source says, All right, we'll talk about that in a minute. Um, when you're developing your capital stack, that's also a very important um phrase, but it is the first thing that your your support, your lending services, uh, all of those people will ask for. So you need to have some good ideas about what those numbers are. Not only do you have to have your cost of construction, you have to have all of your soft cost in there. And what that means is your site prep, all this, all the stuff that is applicable to single family homes, your soil boring test and site surveys, and you know, do you need an environmental? You more than likely will for commercial, absolutely. But in addition to that, what can you expect to spend architectural and engineering fees in order to get it to the permit? Another thing that's very important if you're working with um, let's say affordable housing, a lot of your funding sources are gonna want you to put three types of reserves into your pro forma. If it's a rental, they want to see four to six months of reserves just put into the bank. Um, so that you know, once you get off up and running, you've got a little cushion. Is it gonna, you know, go, not go? In addition to that, they have other two or sometimes I've seen one, two different other types of reserves that they just want to keep in there for additional expenditures. Um, sometimes it's for you know your your operating expenses, not just, you know, it's it's all these factors. But what it also does in this whole pro forma, regardless if it's market rate, affordable housing, there are times in which you are able to see what type of tax credits that are available to you. If it's on brown field, if it's a tax incremental funding or finance, if it's in an opportunity zone, there's all these other factors. Now, if you are doing rentals, you're also gonna have to take your performa to the next step because the bank is gonna want to know how are you paying this back? If it's not, I'm building and selling, they're gonna want to know that your um debt ratio, your dates, your debt service ratio is at a percentage high enough to weather the storm. What that means is you've got all these rents coming in, you know, what is your vacancy rate? What is it what does it cost to really truly operate the building itself? All these factors. So a pro forma, you know, I if you don't know how to do one, you know, Google. There's a lot of samples out there. We can send you a sample. Um, but again, they're also project appropriate too. If you're building a commercial restaurant with bars, it's not going to be the same type of pro forma as an apartment complex. So those pieces are all super important for your capital stack. Let's talk about that. Unless, Breck, do you have any other pieces to add during a pro forma?
SPEAKER_01Oh, I just I think you kind of covered it, but I mean, when when we meet with new clients and they say, like after they've already hired us, that they don't have a pro forma and they haven't even started to think of a cap stack, I get real nervous. Uh honestly, like I have a very, you know, low percentage of uh confidence that this project is actually going to, you know, get off the ground. Because if you're not thinking about how much a project costs before you start, you're you're already dead in the water. Like that, that is the most important part of the of the puzzle, especially early on. Um, you know, I I had an epiphany a few weeks ago that um on some of these very large, very complex projects, it is a it is a chicken and an egg situation. Um, because uh on one hand, you you need a design to have a budget. On the other hand, you need to have a budget in order to design. And so that can be very confusing. And it can be quite frankly, daunting to take on this endeavor of you know, laying out the financial projection for a project, um, not knowing exactly what it's going to be or what it's going to look like. Um, so we need to think about dollars and cents up front. We need to think about is this going to pencil? Is this going to work before we start making it, you know, uh a crazy design or like really adding, you know, materials and colors and like you know, spiffing it up a little bit. Like first, you got to make sure that it's gonna pencil. And that means you need to know what we're gonna build. Back to those first three questions it's where, what, and how much? Like, what are we building? And there's a large misconception in this industry that architects are gonna tell you what you should build. Like, even last week started a new project, and the first you know, question they had on this multifamily complex is how many units can we fit? And I'm like, Well, what does it matter how many you can fit if you can't afford that? Like, how many units can you afford? And what are we doing? Two bedroom units, one bedroom units, how many square feet are they? Like, how many, how many dollars do you have earmarked for each unit? Let's start there. And then I can tell you, like, okay, here's a range that we can work within. And you know, then we can start a conversation of how many units can we fit. But if you just say, like, how many, how many can we fit? It's like, that's that seems like a strange way of going about it. But again, it it is a back and forth conversation. It is because your your financials are going to update as the design kind of you know stinks its teeth into the project and and makes some, you know, some adjustments, and vice versa. Like your design is going to update based on the financial projections, which is super important, Brett, because when you have, you know, I I as a developer, that should be one of their first questions.
SPEAKER_02What's the highest density that I can get? But if it's coming from an experienced uh developer who has gone through the ropes and has done proformas, they're already running the numbers in their head. If they're a new developer and they're saying, what is the capacity without kind of knowing the numbers in advance? This is where we've seen, I mean, I I've seen it over and over again where these large development development firms, you know, they have a budget. They'll invest 20,000, 30,000 in due diligence and still not even build it because they're seeing if everything will pencil out. They have got to go through the process, they know their brand, they know their formulas. And the moment a project doesn't hit the formula, boom, it's done. They move on to the next opportunity. Let's talk about a capital stack because that really is where all of this feeds into very specifically. So, you know, when you've got a you can even use a capital stack terminology in residential, you know, who's who's your construction loan company? Are they gonna just move it all into a um into what once it gets certificate of occupancy in the house and it's built and you're able to move in? Do they just move it all in and um into a traditional loan? Oftentimes that's what happens. Now, capital stack for a commercial project. Well, you have different layers. Just think of a pipe, like a big smokestack, so to speak. And let's say you've got a bank, um, you know, bank's gonna fund you. Let's say you've got a $10 million project. Well, how are you gonna get that $10 million? All right, the first piece you've got a bank commitment of maybe 60%. All right, well, you're six million into this. How are you gonna come up with the other four and a half million? And you know, that other, you know, four million, four and a half million or whatever it is is super important. Are you gonna fill it with tax credit? And you're gonna, I mean, are you doing a tax credit where you're selling the credits and adding that to your capital stack? Are you utilizing investors? What's coming out of your own pocket? Uh your investors, you Your bank will want to see skin in the game, oftentimes 20, 30, 35%. Are you going to be using PACE funding, you know, property assessed clean energy? It's super awesome program. But aside from that, there's different opportunities to put in your capital stack. And once you hit, you know, finding out the due diligence for a project, you really do need to have a good idea where all the money's coming from. Because all those numbers, all the interest rates, if you're utilizing investors, what do they want? How are you going to pay them back? Uh are is the bank interest going to be, you know, you're going to have to carry some interest while the project's being built. So there's all these little fees and all these factors that feed into your pro forma. So they go hand in hand. That's um, I don't know. I don't want to say that's it in a nutshell because I know we could talk for this could be a like a four-hour podcast if we really wanted to get into the nitty-gritty, but it's all about being prepared. If you're not prepared, yeah.
SPEAKER_01It's about being prepared and experienced, because that's like one of the first things that any lender or any financial institution is going to look at. And we see this all the time because we do unique projects with unique construction styles. Um, you know, we get a lot of first-time developers, progressive people who are really trying to make a difference in their in their industry, which is amazing. And we encourage this. We love the clients that come to us, and we work on some pretty wild projects. It's it's fun stuff. Um, but a lot of these clients are first-time developers. So when they go, I want to build a 20-unit apartment complex, the bank goes, How many 20-unit apartment complexes have you built? And they go, none. And they go, then we're not lending you money. You're crazy. Like, go build two units and then talk to us, and then we'll do five units, and then we'll do that. That's how that would work. So if you were trying to get into the game quickly and to develop something way larger, way more complex than you have ever developed before, it's like having job experience. Like you're not going to get hired at a firm if you have zero experience. Like you have to, you have to work your way in there, you have to intern, you have to like get to great analogy.
SPEAKER_02Great analogy.
SPEAKER_01Correct. And so when you when you come into a project and you want to develop 20 units, and they ask you what your experience is, and you say, Well, I've I flipped a couple of houses and I I own some rental units, then they're gonna go, you need a partner. You need to partner with a developer. You you need to find that partner and have those conversations before talking to the bank so that you come in, guns ablazing, ready to prove that you've got this partner that's developed hundreds and hundreds of units all over the country. And now the bank goes, here's your money, prove us that you know, this is the best thing that we've ever lent money to ever. And then you're off to the races. And then we get started. So, in conclusion, here, because we could go on this very complicated subject all day long. The two takeaways are a pro forma is essentially a document that outlines where all the money comes from, where it goes, and how it gets paid back. And then your capital stack is the collection of money that will ultimately pay for the project. Some of that comes out of your pocket, some of it is lent to you, some of it is bridge financing through unique creative ways to make that money, some of it is government incentives. You get it from all over the place. But the pro forma is the document that tells you all of this, and the capital stack is the actual money in whatever format that it comes in. And you need both of those in order to have a real conversation and in order to design and construct your project.
SPEAKER_02Yeah, very well said and a great summary, Breck. Super great summary. You know, we've got some bank resources and people we can refer you to, especially in Michigan and um in the Midwest states, um, you know, that that are available. But the best person to talk to is your bank. Find out, you know, you if you've got a relationship with a bank, that is the first call you should make. Uh, you know, there's a lot of good banks out there that that really want to get behind. There's a lot of uh investing um companies, companies that like to invest in projects. And they're out there. I mean, Capital Impact Partners is one in Detroit that, you know, if the project makes sense, they're gonna put their weight behind it. Um down in Cleveland, there's um there's a couple of other different, I mean, it's you'll find them in all cities. The best thing to do is really um do your do your due diligence. See if the see if projects pencil out. You don't have to go through a huge pro forma guess. That's what we all do. We all guess on the numbers. They're good, educated guesses, but then that allows you then to start formulating your cap stack.
SPEAKER_01And just remember the lending agents are just like any other profession on this earth. They're good ones, they're bad ones, they're ones that work really well for you and with you. And you got to find who that is. I mean, make some phone calls. You know, don't just stick with one entity. You should be calling around, you should be asking multiple, you know, banks of their opinion so that you could better educate yourself through that process. Because the more you talk to people who know what they're doing, the more you're gonna know what you're doing ultimately. True.
SPEAKER_02It's true. Well, Dad. Wow. Well, wow, Claire. Wow.
SPEAKER_01Wowie You know you're gonna open up that can of worms today.
SPEAKER_00Yeah, no, I had a feeling, but I'm I'm glad what came out did come out because I have a feeling on my end in conversations with people calling in, I'm gonna be sending this episode to a lot of people. Sure. So if you made it to the end of this and I hope you took notes. If not, we do have a link to show notes in the description of this episode, along with our contact form to reach out. And also, what we would love to hear from you is if you could leave us a review on this podcast and actually comment what has been the most helpful topic for you, andor what topic would you love for us to cover on this episode? Because we want this to be valuable. We want to make sure it's relevant for what you're looking for, and we are happy to take those recommendations and run with them on future episodes. So, with that, any other closing notes from anybody on the team here today, or are we good to go?
SPEAKER_02We are.
SPEAKER_00I think we'll be doing a part two on this at some point. There's so much to cover with financing.
SPEAKER_02It's so true. Yeah, all right.
SPEAKER_00Yeah, I'll say that.
unknownAll right.
SPEAKER_01I know because I'm trying to get some right now. I tell you, what a process.
SPEAKER_00Yeah, Breck feels for everyone.
SPEAKER_01Real getting a taste of my own medicine right here.
SPEAKER_00You are true, it's true.
SPEAKER_01That's beautiful.
SPEAKER_00The journey of building a house. All right, with that, we're gonna sign off. We will see you on the next episode. Thanks, everyone.
SPEAKER_02Thank you.
SPEAKER_00Bye. We hope you enjoyed this episode. And if you found it so valuable, you want to connect with us one-on-one, click the link in the description to tell us all about your project so we can help you get started. And to get notified on the next episode here on Innovative Real Estate, go ahead and subscribe to the podcast on iTunes so you never miss a beat. Get out there, put today's advice into action, and we will see you in the next episode.