You’ve looked high and low and can’t find a place you want to call home. So you decide that perhaps the perfect home will be built for you on a property you have already found or already own. When it comes time to finance the project, you can’t just take out a traditional mortgage. Instead, you must obtain what are known as construction loans. The steps to obtain these funds are a bit more difficult than a traditional mortgage.
Get construction loans
When you buy a house, you put down some money as an advance and the bank uses the property as collateral on the promissory note. However, if you are raising funds to build a home, there is no building for your lender to use as collateral. To get one of these loans, you will need to have some kind of banking history. There are also special guidelines, which vary from one lender to another, that govern how these funds are released.
As one of the first steps in obtaining the funds to build your own home, you will need to present the “story” of the project. This is simply a set of detailed plans and a realistic budget that the lender can see. There should also be a timeline showing how long it will take to build the residence and planning the distribution of payments.
If the application is approved, you will not receive a check for the full amount. Instead, they will put you in what is known as a bank draft. The draft draw schedule will follow the project schedule outline. A representative of the lender will also monitor the property closely to make sure the home is built as planned. The lender must approve the withdrawal of funds from the draft verifying that progress has reached the point of the next disbursement.
After construction
Typically, the original term of the loan is one year. That does not necessarily mean that you will have to fund your new home a year after it is built. It is simply a reasonable period for the new property to be built.
When contractors have signed their lien releases and a certificate of occupancy is issued, the borrower’s responsibility shifts to a traditional mortgage. Typically, the lender combines the construction and mortgage terms into a 30-year mortgage and you pay the closing costs. The good news is, due to financing from build to permanent, you will only pay closing costs once instead of twice.
Important information to know
Construction loans are not common; they constitute a very small part of the percentage of mortgages. Since this type of financing is a higher risk than a traditional mortgage, you will find that lenders often do not cover the full cost. They generally only offer up to 80 percent of the total amount. You will have to contribute the additional funds yourself. Some will allow you to use the land you own as capital to raise the funds.
When planning your schedule, you need to be realistic. Delays due to material availability and weather are common. Be sure to add extra time to your plans to cover these problems.
If you plan to obtain construction loans, be sure to discuss the different options with your lender before submitting your application.