Apartment Lender Inspections: What Borrowers Need to Know

The Inside Scoop on Apartment Lender Inspections 

If you own a multifamily property that’s slated for an upcoming lender inspection, you might be wondering what to expect— and you may even be anxious about potentially failing. Fortunately, lender inspections aren’t rocket science, and, if you’re reasonably prepared, they can often go off without a hitch. In this article, we’ll tell you exactly what to expect from a lender inspection and how to effectively prepare for one. 

When And Why Apartment Lender Inspections Occur 

Before we dive into the details, let’s clarify when and why a lender inspection might occur. In some cases, inspections may occur before a borrower is approved to purchase a property, however, in most contexts, an apartment lender inspection is for the sole purpose of monitoring progress on a construction or substantial rehabilitation/renovation project. Lenders naturally want to make sure that the proceeds of their loans are being utilized correctly— and that the project is on track. An off-track project signals trouble for a construction lender, and means that it might be harder for a borrower to finish the project within a reasonable time frame, and thus get approved for refinancing to pay back the loan’s principal. 

Unlike typical multifamily loans for purchases and refinancing, borrowers don’t receive all their loan funds at once; instead, they receive them in multiple disbursements, referred to as draws. In many cases, a construction lender will require an inspection before each draw (i.e., each time loan funds are disbursed to the borrower). 

How Apartment Lender Inspections Are Conducted 

Apartment lender inspections are typically performed by a third-party firm hired by the lender, though larger lenders may have in-house inspectors that conduct the inspections themselves. In most cases, one or more members of the borrower’s team (such as an architect or general contractor) will also be there to supervise the inspection process for the borrower. In general, an inspection will look at: 

  • The progress of the project (in terms of work completed), compared to the amount of the loan proceeds that have currently been utilized (i.e., if a project is 20% complete and 50% of the loan proceeds have been used, it would be a serious red flag)

  • Examining the quality and type of work that has been completed (and that it matches what was initially agreed upon by the lender)

  • Any other potential issues (safety or otherwise) that could impact the project or derail the construction process

How to Prepare For Lender Inspections

In reality, there’s not much you can do to specifically prepare for a lender inspection, except to make sure that your project is on-time and on-budget. Make sure to regularly meet with your general contractor and architect and have them show you exactly how the current progress of the project matches up with what you have promised your lender. Ask lots of questions; and, if you’re genuinely concerned that a project may be off-track (but you don’t want your lender to freak out), you may want to consider hiring an independent inspector to take a look at the property.

The Consequences of Lender Inspections for Multifamily Properties 

If a lender inspection goes well, you have nothing to worry about— until your next inspection, that is (if there is one). However, if an inspector discovers issues during the inspection process, they could have serious implications. These could include an increase in interest on your loan or other additional fees. If the project is in terrible shape, a lender, in theory, could even try to foreclose on the property (though this isn’t particularly likely if you’re keeping up with your monthly loan payments). However, construction delays themselves are typically more harmful than the actual impact of a failed inspection. 

For example, if work is delayed due to an increase in labor or insurance costs beyond the financial scope of the original loan, a borrower will generally need to pay these additional costs out-of-pocket or risk a default. Even a slight delay in construction could impact an apartment building’s lease-up period and seriously reduce the amount of income a property generates. For certain types of multifamily properties (i.e., student housing), lease-up periods are seasonal— and running behind just a few weeks could, in essence, destroy an entire year’s worth of rental income. In the end, the multifamily development and construction process isn’t an easy one— and staying on schedule is essential. If you can’t do that— a lender inspection is the least of your worries, but, if you can, it shouldn’t be much of a concern at all.