As any builder will tell you, it is impossible to know with certainty the exact amount a project is going to cost. Variables affecting the cost run the gamut from labor and material costs to delays for unforeseen conditions, weather or other causes. The longer a project is expected to take, the more uncertain the project’s costs become. For this reason, contingencies are included in budgets by all parties involved: owners, contractors, subcontractors and, occasionally, lenders. Ideally, these contingencies will allow the project to absorb delays and other unexpected events without the owner being forced to contribute additional equity (and “balance the loan”) at the time. The owner will desire maximum flexibility over the re-allocation of the contingency(ies) to line items that will then be funded by the lender—while the lender will want to “control” the use of contingency line items to the extent possible.
With this in mind, let’s look at some of the competing motivations at play and “typical” loan agreement provisions regarding the use (or re-allocation) of contingency(ies) to other line items in the Project Budget.