New Home Construction Loans For Your Dream House

Interested in buying a new construction home? Good for you! The ability to influence the final outcome of the home is a goal many people hope to achieve. If you plan on obtaining a mortgage for this property, it’s important to note new construction loans are available, and they are not the same as a regular mortgage one would obtain for an existing home.

How Do Construction Loans Work?

First and foremost, it’s worth noting what a construction loan actually is. Simply put, a construction loan is a type of short-term loan that helps provide the capital needed to build a residential property. These short-term loans typically come with a higher interest rate, and money is often released gradually throughout the build process.

Types of New Home Construction Loans

There are a few different types of construction loans on the market, each of them having their own little nuance.

Construction-Only Loan

A construction-only loan is a type of loan product that provides the borrower with enough money to build the property. However, once the property is built, the lender will typically require the loan to be paid off within a specific period of time - typically 12 months. The borrower can either choose to pay off the loan themselves with a large payment, or they can obtain a regular mortgage on the home. This is a common lending option for home builders. They’ll typically build a house using this loan product and sell it within 12 months of finishing construction.

Construction-To-Permanent Loan

A construction-to-permanent loan is another common option. This is a singular loan product that not only provides the money to build the home, but will also function as your permanent mortgage once the property is complete. This option is common for individuals/families that want to build their own home, or have a builder build a home for them.

Renovation Loan

If you are not looking for new construction, but would like to update and upgrade an existing home, there are loan products that make that possible. Renovation loans are incredibly popular, and do just that. A home equity line of credit (HELOC), or a personal loan, are the most common options people will go with. Personal loans generally have a higher interest rate associated with them, which causes many people to lean towards a home equity line of credit. If you have equity in your existing home, you can convert that equity into cash, and finance the construction project at a lower interest rate than a personal loan.

Owner-Builder Loan

There are times when someone would like to function as the builder, and wishes to secure a loan to finance the construction project. Although rare, most lenders will steer clear from providing financing. Building a house is a complex project, and the house must meet specific code requirements. If these requirements are not met, the bank will not be able to sell this property in the event the borrower defaults on the loan. There are specific circumstances where it is possible to be the owner and the builder - and that is typically reserved to those that are already licensed home builders.

End Loan

All lenders do not provide the construction-to-loan financing option. With that option, only one closing is required for the entire lending/mortgage process. In the event the lender does not provide a construction-to-loan option, lenders may provide an End Loan option instead. On a high level, this functions very similarly to a construction-to-loan financing option, however, a second closing is required. The end loan will take place following the completion of construction.

How to Get a Construction Loan

Obtaining a construction loan is not a one size fits all approach. Each one of the loans mentioned above may require different steps or procedures to follow to secure the loan. Before meeting with a licensed loan officer, be sure to have all your information in order.

This information includes; meeting with an architect to develop specific plans, meet with and negotiate a contract with the builder, and have all of the costs needed to build the home organized within a singular document. Lenders will also want to run comparable prices in the area before signing off on the deal. They wouldn’t be welcoming of building a $2,000,000 property in a neighborhood where the average price per home is $300,000.

Construction Loan Rates and Requirements

Construction loans all come at the expense of an interest rate. Each loan product will have a different interest rate associated with the financing. For instance, a construction-to-permanent loan will have an interest rate that is closely aligned with the interest rate on a standard mortgage.

Whereas, a construction-only loan may have an interest rate which is higher than the interest rate on a standard mortgage.

By and large, construction loans require a down payment of at least 20%. Other factors such as one's credit score, and debt-to-income ratio will all play a key role in determining if one is approved for the mortgage or not.

The Benefits of New Construction

There is a long list of benefits for what makes new construction appealing. Most commonly, people like new construction for the following reasons:
People associate a new home with being issue free. No question about it, if the home was built properly, you likely have many years before the first major issue arises - such as needing a new roof or insulating the attic. With that said, just because the house is new doesn’t mean it was built with quality materials, and issues may become present early on. Make sure you use, or buy a house from, a reputable builder.

If you’re building your own house, you can design it to your specifications. Perhaps you want the builder to use specific material, or you want the master bedroom to be a specific size with a beautiful walk-in closet. The property is a blank slate, you can put your personal touch on anything you want!

Choosing a Construction Loan Lender

Buying a house is an exciting accomplishment. Building a new house only multiplies that excitement! Without question, a house is a large investment, often the largest investment one will make over the course of their lifetime. Working with a trusted professional mortgage broker will help ensure you’re getting the right financing option.

A mortgage broker will know the ins/outs of construction loans, and can help shop around for various options. Whether you’re looking for a new home construction loan, or a standard mortgage, use a professional mortgage broker to guide you along the process and ensure you’re getting the best deal.

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This page last updated: March 23, 2022