Most consumers have at least a working knowledge of what mortgage lending is. Those long-term loans are a staple concept in the world of household finance. These loans give homebuyers access to funds to pay for what may be their biggest lifetime investment, and what will be paid in installments over many years.
However, homebuyers are usually not as familiar with the options for financing a lot and building a home. If you are interested in building your dream home, there are usually two paths to lot financing and construction.
Lot Loan + Construction Loan
The vast majority of buyers prefer to secure the site of their home before hiring an architect or draftsman to design their future home. After all, one of the main benefits of building a custom home is that it will be made to your liking. The floor plan of your home should fit the lot in the best way to avoid inconvenience.
For that reason, the most common construction financing situation is to purchase the lot directly, secure its financing, and then seek a construction loan, once the architectural plans and budgets are completed.
Combined Construction Lot and Loan
For buyers who create good planners, a lot and a loan of Combined construction can be a good option. “In fact, it is possible finance the purchase of your lot at the same time that you obtain a loan for the construction,” says Brent Gibbs, executive vice president/director of loans from Southstar Bank in Austin.
“Said. this, this is rare because customers rarely have their plans, specifications and offers ready at the time of purchase of the lot”, Gibbs says. There’s an advantage to all that advanced planning: with a loan Combined, buyers avoid the costs and time that would be spent on two closures.
But, even if you already managed to finance your lot, most lenders will transfer that amount to the construction loan to ensure they have a first lien on the entire project. The first payment made on the new loan will be to repay the loan from the existing lot and refinance it.
How do construction loans work?
Unlike long-term mortgages, construction loans are short-term loans with payback periods that usually last 12 to 18 months, which is usually enough time to complete home construction. Usually, these are interest-only with variable rates tied to the prime rate. Don’t expect your banker to run the entire project; Lenders will also want you involved in the process. What you might expect is to pay a portion of the costs, usually 10 to 20 percent.
“If you already own your lot, your equity in the property can be included as part of the collateral for the construction loan,” says real estate developer Steve Sanders. “If you bought the land with a lot loan, the construction loan would usually be used to pay off and refinance that first loan. If you are buying a lot with the construction loan, you will coordinate the closing of the lot purchase with the closing of the construction loan.”
How to prepare for a loan application?
Before If you contact your banker, have your documents ready. As with a mortgage, you will need recent tax returns, employment history, financial statements and credit card information, and loans. Essentially, the lender needs proof that you have the financial ability to repay the loan.
Without However, unlike a mortgage, the loan approval of Construction will also depend on making sure that the project will be high quality, will be completed on time and will be within the loan amount.
“We need a contract from a builder along with blueprints, specifications and cost breakdown,” Gibbs says. “In addition, we would need a contract to purchase the lot. These two contracts allow us to bundle the loan together with a loan with construction funds.” Your bank will likely also require information about your builder. Because the construction of your home depends on the builder’s ability to perform, Austin banker Jeff Brinkley says, the builder’s reputation and track record are key factors in your loan application package.
How can you receive your funds?
Your lender will provide you with a timeline detailing the stages at which you can withdraw money from the construction loan. For example, this can occur after the slab is poured, after inspecting the frame, etc. Your builder will use those funds to pay subcontractors and suppliers for work done.
But what happens if the project goes over budget? “We normally try to incorporate a contingency of 5 to 6 percent into the contract for possible cost overruns. In addition, we look at the liquidity of the borrower to be able to handle potential cost overruns,” says Gibbs. Generally, builders will provide customers with certain items (usually for plumbing fixtures, lighting fixtures, etc.) and it is very important for the customer to ensure that they have the means to pay for surpluses if items are selected that cost more than what is allowed. It’s possible to add funds to a loan for additional items, but it’s usually a last resort, and it’s relatively difficult.”
If your heart is determined to build your dream home, there are several ways to secure lot and construction financing. Talk to your local banker to learn about the best options for your situation. For any other questions about the home search process, we’re here to help!