Home Construction Loan
Haven’t found your dream home? Build one with a Direct Mortgage Loans’ Construction Loan. We offer a variety of Construction Loans with flexibility in qualifying credit and down payment minimums.
What is a new construction loan?
A new construction loan is a type of financing which covers the costs of building a residential home, including the land purchase and construction of the house. There are different types of construction loans available.
For example, a standalone construction loan is a short-term loan, typically lasting around one year, that only funds the building phase. After the construction is complete, the borrower needs to secure a separate mortgage to pay off the home. Alternatively, a construction-to-permanent loan combines both the construction financing and the permanent mortgage into a single loan.
What is the difference between a construction loan and a regular loan?
Understanding the difference between construction loans and a regular loan is key when financing the building of a new home. A regular mortgage is used to buy an existing home, providing a lump sum upfront, with monthly repayments of principal and interest beginning after closing.
In contrast, construction loans fund the building process. Lenders release money in stages as the house is built, tied to specific construction milestones. This ensures funds are used as planned and reduces risk for the lender. Construction loans often have adjustable interest rates, which means the monthly payments could change based on market interest rates.
How does a construction loan work?
Construction loans provide short-term financing for building a new home. This includes covering costs such as land acquisition, material purchases, labor, and permits. Unlike a regular mortgage, construction loans have additional requirements.
To secure a construction loan, you must provide your lender with documents such as a detailed construction plan, a realistic timeline, and a budget for the project. It’s also important to provide regular updates on your progress. Once the home is complete, the construction loan converts into permanent financing.
Types of New Construction Loans
When it comes to financing the construction itself, several loan options cater to your specific needs:
Construction Only
This loan provides the funds needed for construction, disbursed in stages as progress benchmarks are met. Once construction is complete, you’ll need to apply for a traditional mortgage. With this mortgage product, you will have to pay a second set of loan fees and closing costs.
Construction To Permanent Loan
This streamlined option combines construction financing and a permanent mortgage into a single loan. During construction, you’ll make interest-only payments on the funds used. Upon completion and occupancy, the loan automatically converts into a traditional mortgage with principal and interest payments. This eliminates the need for separate financing and closing costs.
Renovation Loan
If you’re planning to buy a house that needs repairs or renovations, or if you want to update your current home, a renovation loan could help finance the project. Common options include Fannie Mae’s HomeStyle renovation loan, FHA 203(k) loan, and Freddie Mac’s CHOICERenovation program.
Owner Builder Loan
This loan is designed for individuals who plan to act as their own general contractor during the construction process. It provides financing for the construction itself, but not for the land. Lenders typically have stricter requirements for owner-builders, assessing their qualifications and experience in construction projects.
End Loan
An end loan is the long-term financing solution that replaces any temporary construction loans and covers the total cost of your completed home. Depending on your eligibility, this could be a conventional mortgage, FHA, USDA, or VA loan.
Construction Loan Rates and Requirements
Construction loans typically have variable interest rates, meaning the rate could change based on market conditions during the loan term. Due to the uncertainty involved in building a home, lenders face higher risk, which often leads to higher interest rates compared to fixed-rate mortgages for existing homes.
The requirements for a construction loan could vary depending on the type of loan and the lender, but there are some common criteria most lenders will consider. One important factor is your credit score, which generally needs to be between 620 and 720, depending on the loan type. Additionally, having a stable and sufficient income is necessary as it demonstrates that you can comfortably manage loan repayments.
Lenders will also assess your debt-to-income ratio (DTI), which compares your current debt to your income. A lower DTI is preferred as it indicates that you could handle additional debt. Furthermore, a detailed and realistic budget for your construction project is essential.
When should you consider getting a home construction loan?
Here are some situations when you might consider getting a new construction loan:
- Building a Custom Home: If you’re planning to build a custom home from scratch, a construction loan could provide the necessary funds to cover the costs of land acquisition, materials, labor, and other expenses.
- Purchasing a Lot to Build On: If you’ve found the perfect piece of land and want to build your home on it, a construction loan could cover the costs of both the land purchase and the construction.
- Investing in Real Estate: If you’re looking to invest in real estate by building a new property, a construction loan could provide you with the financing to help you get started.
Construction Home Loans vs Renovation Loans
The main difference between construction loans and renovation loans is whether you’re building a new home or enhancing an existing one.
Construction Home Loans
Construction home loans are designed to finance the building of a new home. They cover various stages of the construction process, including land acquisition, labor, and materials. These loans usually have variable interest rates and can be structured as a one-time close or a construction-to-permanent loan.
Renovation Home Loans
Renovation loans, on the other hand, are meant for improving or repairing an existing home. These loans are used to finance costs such as remodeling, room additions, or system upgrades. Renovation loans may offer fixed or variable interest rates and could be obtained as standalone loans or through home equity options like a home equity loan or a home equity line of credit (HELOC).
How To Get A Construction Loan For A House
To get a construction loan, you’ll need to follow a different process compared to getting a traditional mortgage. Here are the steps to help you through the process:
- Speak with a Loan Officer: Discuss your project goals with a mortgage professional who specializes in construction loans, like Direct Mortgage Loans, to confirm your eligibility for different loan programs and to guide you through the process.
- Gather your Documents: Once you have confirmed your eligibility, gather necessary documents such as income verification, tax returns, and property details if you’re using land as collateral.
- Get Pre-Approved: Provide the necessary documentation and submit an application for pre-approval.
- Find your land and builder: Look for a piece of land to construct your home on and find a reputable builder. Ensure the builder meets the requirements of your lender and possesses the necessary licenses and insurance. You can search for a licensed, reputable builder, using National Association of Home Builder directory.
- Complete Paperwork: Finalize construction plans with your builder and submit them, along with all required permits and budgets, to your lender.
- Close the Loan: After approval, the loan agreement is finalized, and funds are then distributed according to a set schedule tied to construction milestones.