# Case: Construction interest reserve exhausted by a delay

Canonical: https://commercialdebtadvisory.com/cases/construction-interest-reserve-exhausted-by-a-delay/
Status: Published
Publisher: Jaken Finance Group

**Hypothetical construction delay.** A project is physically advanced but cannot complete its operating transition for another six months. At the start of the delay, funded loan principal is $6 million. The facility has $200,000 of remaining authorized, unfunded interest availability. There are no further hard-cost draws and no property cash available for interest during the modeled delay.

The interest availability is a budget within the commitment, not $200,000 already sitting in a funded cash account. An approved interest draw increases principal when it is made. That distinction determines both the remaining commitment and the next month's interest.

Assume a fixed 12% nominal annual rate, calculated as 1% of beginning-of-month funded principal each month. Interest is paid at month-end, first with remaining authorized interest advances, then with borrower cash. Only the financed portion increases principal; borrower-paid current interest does not. This is an explicit teaching convention, not a claim about all construction contracts or actual-day interest.

## Rebuild the interest schedule from the funded balance

| Delay month | Opening principal | Interest due | Loan advance for interest | Borrower cash interest | Ending principal | Remaining interest availability |
|---|---:|---:|---:|---:|---:|---:|
| 1 | $6,000,000 | $60,000 | $60,000 | $0 | $6,060,000 | $140,000 |
| 2 | $6,060,000 | $60,600 | $60,600 | $0 | $6,120,600 | $79,400 |
| 3 | $6,120,600 | $61,206 | $61,206 | $0 | $6,181,806 | $18,194 |
| 4 | $6,181,806 | $61,818.06 | $18,194 | $43,624.06 | $6,200,000 | $0 |
| 5 | $6,200,000 | $62,000 | $0 | $62,000 | $6,200,000 | $0 |
| 6 | $6,200,000 | $62,000 | $0 | $62,000 | $6,200,000 | $0 |

The allocation runs out partway through the fourth interest payment. Borrower cash interest over six months is **$167,624.06**. Total interest is **$367,624.06**, consisting of $200,000 financed plus $167,624.06 paid in cash. Ending principal is $6.2 million, not $6,367,624.06, because the cash-paid portion was never added to debt.

The [OCC monitoring discussion](https://www.occ.gov/publications-and-resources/publications/comptrollers-handbook/files/commercial-real-estate-lending/pub-ch-commercial-real-estate.pdf) identifies the connection between extended lease-up, interest-reserve depletion and additional funding. Its guidance does not determine the draw order or rate used in this example; those must come from the actual agreement.

## Explain why a simple burn-rate division is inadequate

Dividing the $200,000 availability by the first month's $60,000 interest suggests 3.333 months. That shortcut ignores the interest generated by previous interest draws. The exact schedule shows $18,194 remaining after month three and a $43,624.06 borrower requirement on the fourth payment date.

If the borrower instead paid all six months from cash and drew none of the interest allocation, principal would stay at $6 million and interest would total $360,000 under the same convention. Using the allocation adds **$7,624.06** of interest during this modeled period, in exchange for financing $200,000 of the payments. It also leaves $200,000 more principal to repay later.

That comparison is not a recommendation to pay from cash. The owner may need liquidity for other obligations. It simply exposes the financing cost and balance effect so the choice is not treated as free reserve money.

## Add the extension requirement as its own use

Assume the existing maturity arrives after month six and a proposed extension requires a fee equal to 1% of then-funded principal, paid from borrower cash. The fee is **$62,000** on $6.2 million. It is not 1% of the original $6 million, nor is it financed through the already exhausted interest allocation.

Total cash required for the modeled delay and fee is $167,624.06 + $62,000 = **$229,624.06**. The sponsor has only $200,000 of available committed support, so the stated plan is short **$29,624.06**. It also has no allowance for other delay costs, operating losses, taxes, legal fees or further lender conditions.

The extension is only a proposal in this case. Paying a fee or possessing enough cash does not establish that all contractual conditions are satisfied or that the lender must extend. A current maturity obligation remains until the required arrangement is effective.

## Preserve three separate balances

The monitoring package should show funded principal, remaining authorized advances and unrestricted borrower cash. In this example, principal grows while availability shrinks, and borrower cash begins declining once the allocation is exhausted. Combining the three into one “remaining reserve” figure would hide the switch in funding responsibility.

Confirm whether the lender permits category reallocations, partial interest draws and the assumed capitalization mechanics. If it stops advances earlier because another condition fails, the borrower cash requirement increases. If it permits a higher commitment, model the new debt and ultimate repayment rather than reporting the added availability as an equity contribution.

An already funded interest reserve would require a different schedule: principal may include the reserve from the outset, and payments would draw down cash instead of creating new principal each month. The case's numbers should not be transferred into that structure without changing the model.

## Use the depletion date as an action deadline

The owner needs a committed source for the fourth payment's $43,624.06 before that date, then $62,000 in each of the next two months and the separate extension fee. A plan to raise the money at the end of month six arrives too late for the intervening payments.

The original $200,000 support commitment nearly covers the modeled period, but the remaining $29,624.06 is a real shortfall. The appropriate next decision is a funded correction to the delay and extension plan, with an updated exit principal of $6.2 million. A statement that the project has an interest reserve is no longer an adequate answer once the schedule shows exactly when it runs out.


## Source references
- [OCC — Commercial Real Estate Lending, version 2.0](https://www.occ.gov/publications-and-resources/publications/comptrollers-handbook/files/commercial-real-estate-lending/pub-ch-commercial-real-estate.pdf) — Interest Reserves, printed pp.7–8; Monitoring Commercial Construction Projects, pp.46–47 · Checked 2026-10-21 · Bank supervisory context. March 2022 publication, with March 20, 2025 reputation-risk edits. All case amounts, thresholds and contractual conditions are invented teaching assumptions.