Be Careful of Contractor Agreements With Construction Lenders

In this market, more and more contractors are being asked to sign agreements, letters or statements of understanding with the owner’s construction lender before work begins. The purpose of these agreements is to give the lender some level of control over the work and corresponding costs, but it could come at some peril to the contractor. The terms of these agreements vary widely from lender to lender, but they generally restrict change orders absent lender approval, commit the contractor to the draw schedule and payment requirements in the loan document regardless of what the underlying construction contract provides, and sometimes require the contractor to indemnify the lender for costs should anybody lien the job. The incentive to sign these agreements is high, especially now when contractors are looking for work wherever they can. However, resist the temptation and make a good business decision. I recently saw a contractor lose a claim worth more than $300,000 because of a bad letter they signed for the lender containing some of these provisions. Absent that letter, which didn’t even look like a formal agreement to the contractor, the contractor could have been paid. Now, the contractor won’t.

When the owner approaches you and tells you the lender needs you to sign a certification, letter or memo of understanding, you need to realize it could have the force of a contract. Treat it like a contract. Get a copy of the loan document and ensure its terms are consistent with your construction contract. Negotiate terms with which you’re uncomfortable, get legal counsel if necessary and, if you can’t shake the feeling that the agreement is too restrictive or burdensome, consider walking from the deal. The contractor who lost $300,000 because of his letter to the lender sure wishes he did.