TRID Purpose on Construction Loans

Construction loans under TRID have proven to be very challenging for many community banks and credit unions.  The reason for this is twofold: the CFPB did not provide much guidance in regards to construction loans and the guidance that they did provide is often found to be confusing.  For this reason, it is worth revisiting the TRID rules for construction loans every once in a while.

I recently received a question regarding the purpose field on the Loan Estimate (LE) as well as the Closing Disclosure (CD) for single-close, two phase construction loan where the land was owned free-and-clear. The question related to what purpose to list on the TRID documents.

To answer this question, it is important to understand that each financial institution has two options for providing the disclosures.  They can either provide one set of disclosures that will cover both the construction phase and the permanent phase.  Or, they can provide two separate sets of disclosures for this single loan with two distinct phases.

TRID Purpose Hierarchy

Under TRID rules, there is a hierarchy for reporting the purpose, meaning that if multiple purposes apply to a loan, you must list the purpose that is higher up on the hierarchy.  The CFPB actually refers to this hierarchy as a “waterfall” and provided the following explanation in their March 2016 webinar that discussed construction loans under TRID:

“If a consumer uses the loan proceeds to finance both the purchase of real property and construction cost, the creditor must disclose the purpose as purchase. The use of loan proceeds to finance construction costs does not by itself impact the disclosure of the loan's purpose on the Loan Estimate. Section 1026.37(a)(9) defines four possible purposes in the following waterfall order. One, purchase. Two, refinance. Three, construction. And four, home equity loan. Comment 37(a)(9)-1 illustrates and clarifies each defined purpose. When determining which purpose to disclose, a creditor must look at the waterfall of four possible purposes in the order that they appear in Section 1026.37(a)(9) and select the first one that applies to the loan.

To illustrate use of the waterfall, if the loan meets the definition of purchase because the consumer intends to use the credit to purchase the property that will secure the loan, the creditor must disclose the purpose as purchase even if the loan also meets any other definitions appearing later in the waterfall. A creditor must disclose the purpose as refinance if the consumer intends to use the credit to construct a dwelling on real property that the consumer already owns and to satisfy an existing loan secured by that real property. If the credit will be used to finance the initial construction of a dwelling on the property and will not be used for any purchase or refinance purpose, the creditor must disclose the purpose as construction. Even if the loan is secured by real property being purchased and disclosed as a purchase on the Loan Estimate, if the loan is also financing the construction of a dwelling, the provisions of Section 1026.17(c)(6)(ii) still apply. So the loan's purpose as disclosed on the Loan Estimate does not impact the applicability of other construction-specific provisions of Regulation Z.”

So in answering the original question of what purpose to list on a construction loan where the land is already owned free-and-clear, a lender would list the loan purpose as “Construction.”

Purpose for the Permanent Phase of the Construction Loan

While the above seems fairly simple, it should be noted that there is one slight twist in disclosing the purpose for an LE that covers the permanent phase of a single closing loan where the bank chooses to provide separate disclosures for each phase of the loan.  In this case, the permanent phase disclosure will list the purpose as a “refinance.”  The CFPB explained this in their March 2016 webinar:

“The creditor must disclose refinance for the purpose of the permanent phase under Section 1026.37(a)(9) and its related commentary. As stated in the question, the creditor has chosen to disclose the phases of construction-to-permanent loan as two separate transactions. When each phase is disclosed and considered as a separate transaction and the proceeds of the permanent transaction satisfy the outstanding balance due at the conclusion of the construction transaction, the credit meets the definition of a refinance purpose under Section 1026.37(a)(9)(ii).”

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