Construction Loans
If you want to build your own house, securing traditional financing can be tricky. Banks are typically are reluctant to offer a loan on a dwelling that has not been built yet because they don’t have collateral if the loan goes into default. An alternative option in this situation is a construction loan. A construction loan is a short-term loan that pays for the cost of building your home. These loans are offered for a set term (usually the length of the construction process) and then must be paid in full at the end of that term.
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Financing is Different with a Construction Loan
With a construction loan, the money is distributed with draws over a determined time period, the lender doesn’t hand out all of the cash at once. This means that the builder gets a predetermined sum, (usually around 10%) upfront and then continues to receive a percentage of the money as construction progresses. They might get another 10% after the foundation is poured, another after the roof is on, etc. With some loans, the lender will require an inspection after each stage of construction. The benefit to the borrower is that interest is only accumulating on the money that has been lent to date. So instead of paying interest on the principle of the loan, you’re paying interest on the funds you have received up to that point. Since the loan starts out small, monthly payments will be less at the beginning and as more money is allocated to the builder the monthly payment will increase.
Terms and length of a construction loan
The terms of the loan are predetermined by the lender and the builder. Most lenders require an upfront 20% to 30% down payment. These loans usually have a variable interest rate, meaning that the interest rate can increase or decrease as the loan progresses.
Construction loans are shorter than traditional loans. They are usually set up to cover the time it will take to build the home and will end soon after construction is complete. At that time, the borrower either has to repay the loan in full or roll the loan into another mortgage. The most popular type of construction loans is designed to automatically transfer over to a conventional loan without any new closing costs. This can save the borrower thousands of dollars and reduces the risk of not qualifying for a loan after the original one closes.
If you’re considering building a new home and want to learn more about construction loans, give Signature Lending Services a call at 877-948-2562 to discuss your options.
