A land loan provides financing to acquire or hold raw or entitled land before construction begins, typically at lower leverage and higher rates than a construction loan, since undeveloped land is harder to value and generates no income. A construction loan finances the actual vertical development, disbursing in stages against completed work once plans, permits, and a budget are in place. Many projects use a land loan first and refinance into a construction loan once ready to build.
Quick Comparison
Key attributes side by side.
| Attribute | Land Loan | Construction Loan |
|---|---|---|
| What It Finances | Purchase or holding of unimproved or entitled land | Vertical construction of a new building or project |
| Leverage | Typically lower, 40-60% of land value | Typically higher, 60-80% of total project cost |
| Cost / Rate Range | Higher, reflecting limited collateral value and no income | Moderate to high, reflecting construction and completion risk |
| Funding Structure | Often a single draw at closing | Staged draws tied to completed construction milestones |
| Income During Term | None; land typically generates no cash flow | None until the project is completed and leased or sold |
| Entitlement Status | Can finance raw or partially entitled land | Generally requires full entitlements and permits before closing |
| Typical Sequence | Often the first step before development begins | Often follows a land loan once plans and permits are ready |
In Depth
A land loan finances the acquisition or continued holding of unimproved or entitled land before vertical construction begins. Because raw land generates no income and is harder to value than a developed property, since there are fewer directly comparable sales and no cash flow to underwrite, land loans typically carry lower leverage, often 40-60% of the land's value, and higher rates than either a bridge or construction loan on an improved asset.
Land loans are used for a range of purposes: acquiring a site while entitlements or permits are being pursued, holding land during a lengthy approval process, or bridging the gap between purchasing a parcel and having a finalized construction budget ready to fund. Because the collateral produces no income and entitlement timelines can be unpredictable, lenders willing to finance raw or partially entitled land are a smaller pool than conventional CRE lenders, often specialty or private capital sources.
The main risk with a land loan is that the sponsor's exit depends on successfully entitling and eventually developing or selling the site, a process that can take longer and cost more than expected. If entitlements stall or market conditions shift before construction begins, the sponsor can be left holding an interest-bearing loan against a non-income-producing asset with no clear near-term resolution, which is why land loan terms are typically shorter and more conservative than construction financing.
In Depth
A construction loan finances the actual vertical development on a site, funding hard construction costs, soft costs, and carrying costs as the project moves from a finalized set of plans and permits through completion. Unlike a land loan, a construction loan requires the entitlement and permitting process to be substantially or fully complete before closing, since the lender is underwriting a specific, permitted project rather than the land's speculative potential.
Construction loans disburse funds in stages, tied to verified progress on the project, and typically support higher leverage relative to total project cost than a land loan supports relative to land value, often 60-80%, since the lender is financing a project with a clear completion date and projected stabilized value. Interest generally accrues only on funds actually drawn, and the loan is sized against a detailed budget covering every line item from site work to final finishes.
Many development projects move through both loan types in sequence: a land loan to acquire and hold the site while entitlements are secured, followed by a refinance into a construction loan once plans, permits, and a firm budget are ready. Some sponsors negotiate a single facility that converts from a land loan to a construction loan once entitlements are complete, avoiding the cost and timing risk of two separate closings, though this requires the lender to be comfortable financing both phases.
Key Differences
Purpose: A land loan finances the site itself; a construction loan finances the building of a project.
Leverage: Land loans carry lower leverage against land value; construction loans support higher leverage against project cost.
Entitlements: Land loans can fund before entitlements are complete; construction loans generally require them finalized.
Funding: Land loans often fund in a single draw; construction loans disburse in stages against completed work.
Sequencing: Sponsors commonly use a land loan first, then refinance into a construction loan once ready to build.
Risk: Land loans carry entitlement and holding-period risk; construction loans carry execution and cost-overrun risk.
Decision Guide
Practical scenarios to help you decide.
Going deeper
A sponsor buys a $5 million parcel while entitlements are still pending, illustrative figures only. A land loan at 50% of land value provides $2.5 million at an illustrative 10% rate, funded in a single draw, giving the sponsor 18 months to secure zoning approval and permits while carrying the site.
Once entitlements are complete and the sponsor is ready to build a $20 million project on that same site, a construction loan at 70% of total project cost, including the now-entitled land value, might provide $14 million, disbursed in stages as construction progresses rather than in one draw. The two loans finance the same underlying site at two different points in its life, with materially different leverage, rate, and funding mechanics reflecting how much the collateral has changed between the two closings.
The entitlement itself is what unlocks the leverage jump between the two loans. The raw $5 million parcel supported only $2.5 million of debt; the same parcel, once entitled and rolled into a $20 million construction budget, supports $14 million once the construction lender can underwrite a defined, permitted project with a projected completion value rather than a speculative future use.
A land loan's documents are relatively simple: a note and a mortgage against the raw or partially entitled parcel, often with covenants addressing the entitlement process itself, such as a requirement to pursue permits diligently or a springing maturity tied to entitlement milestones rather than construction progress.
A construction loan's documents are considerably more involved, referencing finalized plans and specifications, a detailed construction budget, the general contractor agreement, and a draw and inspection process with lien waiver requirements, none of which a land loan's documents typically address since no construction is yet underway.
Early in a development timeline, before entitlements are secured, a land loan or all-cash purchase is usually the only option, since almost no construction lender will fund a project that lacks finalized permits and plans. As entitlements near completion, the sponsor's attention shifts to lining up construction financing, since the land loan's maturity and the construction loan's closing timeline need to be coordinated so the site does not sit unfinanced in the gap between the two.
A sponsor who underestimates how long entitlements will take risks a land loan maturing before a construction loan is ready to close, which is one of the more common timing failures in ground-up development financing.
Market conditions during the entitlement period can also change the construction loan's eventual terms independent of anything the sponsor controls. Construction costs that rise materially between when the land loan closes and when entitlements are finally granted can push total project cost, and the leverage a construction lender is willing to extend against it, in a direction the sponsor did not originally underwrite, sometimes requiring additional equity to bridge the gap before construction financing can close.
Because these two loans typically finance sequential phases of the same project rather than competing alternatives, the key questions are about timing and readiness.
Our Role
H Equities evaluates development deals across both phases, from acquiring and holding a site through the entitlement process to bridging a project once it is ready to move forward, structuring bridge loans from $5MM to $50MM around where the project stands. We work with sponsors to understand entitlement timelines and construction readiness so financing lines up with each stage of the project rather than being sized for a single, generic transaction.
FAQ
Yes, if you already own the land outright or are acquiring it with cash or other capital, you can go directly to a construction loan once entitlements and permits are in place. A land loan is only needed when acquiring or holding the site requires its own financing.
Raw or entitled land generates no income and is harder to value precisely, since there are fewer directly comparable transactions and the ultimate value depends on a development that has not yet happened. Lenders compensate for this uncertainty by lending against a smaller percentage of the land's value.
Some lenders offer a single facility that converts from a land loan to a construction loan once entitlements are finalized, avoiding a second closing. More commonly, sponsors refinance from a land loan into a separate construction loan with a different lender once the project is ready to build.
A delayed entitlement process can strain a land loan's maturity, since the sponsor may need an extension or a refinance before construction can begin and generate value. This is why land loan terms and reserves should be sized with realistic entitlement timelines rather than best-case assumptions.
Related
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