ATLANTA—Lending is being constrained by new rules that are part of the Basel Accords and place punitive capital constraints on banks for construction loans. How will this to impact capital markets?

Nobody has all the answers. But KC Conway, credit risk manager and chief valuation officer at SunTrust Bank, has some valuable insights into this hot topic.

First, he gives us the baseline: the High Volatility Commercial Real Estate—or HVCRE—rule for construction loans imposes capital requirements that are 150% above what is considered normal. Next, he explains that projects are considered HVCRE if the developer does not have equity in the project equal to 15% of its future “completion value.”

“The trickle down impact of the rule is that banks will have to either price the capital penalty into the cost of the loan or absorb the higher capital charge,” Conway says. “The latter would adversely impact loan margin and bank profitability.”

At this point, Conway says, we do not fully know how the rule and its unintended consequences will impact construction lending. We he is confident of, however, is that there is a real cost when banks take a higher capital charge for HVCRE-identified construction projects.

“We expect project costs will go up, equity requirements will go up, and loan structures will change to avoid triggering a higher completion value,” Conway says. “For example, because preleasing a development results in a higher completion value, some developers may choose not to prelease to reduce the equity impact.”