A construction loan charges interest only on funds actually advanced. The commitment is $400,000, but only $100,000 has been disbursed. On what principal base is current interest generally calculated under those terms?
Correct Answer
B) The $100,000 outstanding amount advanced
Why this is correct: The correct answer is "The $100,000 outstanding amount advanced." The question specifies the loan terms: interest is charged "only on funds actually advanced." Therefore, interest accrues solely on the principal amount that has been disbursed to the borrower (or builder) and is currently outstanding. The undisbursed portion of the commitment ($300,000 in this case) does not accrue interest until it is actually advanced. Why the other choices are wrong: "$400,000 because it is the commitment" is wrong because it ignores the specific "interest only on funds actually advanced" term stated in the question. "The completed value of the property" is wrong because interest is calculated on the loan balance, not the property's appraised or future value. "The builder's remaining contract balance" is wrong because the builder's contract amount is separate from the loan principal advanced to the borrower on which interest accrues. Exam tip: For construction loans, always identify whether interest accrues on the full commitment or only on amounts advanced—this is a key term that affects the borrower's interim payments.
Why This Is the Correct Answer
Why this is correct: The correct answer is "The $100,000 outstanding amount advanced." The question specifies the loan terms: interest is charged "only on funds actually advanced." Therefore, interest accrues solely on the principal amount that has been disbursed to the borrower (or builder) and is currently outstanding. The undisbursed portion of the commitment ($300,000 in this case) does not accrue interest until it is actually advanced. Why the other choices are wrong: "$400,000 because it is the commitment" is wrong because it ignores the specific "interest only on funds actually advanced" term stated in the question. "The completed value of the property" is wrong because interest is calculated on the loan balance, not the property's appraised or future value. "The builder's remaining contract balance" is wrong because the builder's contract amount is separate from the loan principal advanced to the borrower on which interest accrues. Exam tip: For construction loans, always identify whether interest accrues on the full commitment or only on amounts advanced—this is a key term that affects the borrower's interim payments.
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