Unless you plan to pay cash for your home construction project, you will need to obtain construction financing and a mortgage for the outstanding balance when it is completed. While you may have qualified for a home loan before, obtaining a construction loan for your home construction project can be a bit challenging.
Although it is certainly possible to obtain a construction loan as an owner-builder, lenders may avoid it at first, thinking that you are not qualified to handle such an undertaking. Consequently, it is important to be highly prepared and to be competent and capable when presenting your case to the lender. For example, don’t say, “I’ve never done this before, but I’m willing to try.” Instead, be positive, prepared, and professional. Never lie, anticipate questions and concerns, and have your answers ready.
There are several types of construction loans to choose from, but one of the most popular for homebuilders is a construction loan that becomes a permanent loan once the home is complete. Although there are no standard specifications for this type of loan, as a guideline, most only require you to pay closing costs once. That saves some money and makes the process easier. You don’t have to go through the qualification process twice. The downside is that it’s nearly impossible to lock in a permanent mortgage rate, as you won’t close on the loan for six months to a year.
Regardless of the type of construction loan you choose, you will likely have to pay monthly interest on the construction loan amount during the construction phase. The amount you owe each month will depend on the amount you have “taken out” of the loan, not the total amount you are allowed to borrow. If you are approved for a $ 100,000 construction loan but have only withdrawn $ 50,000, your interest payment will be based on $ 50,000. Construction loans generally have standard (unpaid) interest and are one to two percent above the prime rate, or whatever you’ve negotiated with your lender.
Qualifying for construction goes beyond the income and credit rating requirements for a standard home loan. Bankers or lenders will want to know how you plan to approach your project and if you are able to build a house yourself. A detailed presentation to the bank will be required. The following is a summary of what you will need to apply for a construction loan:
- all the same financial information that you would provide to obtain a standard home loan (financial statements, income verification, credit report, etc.)
- a set of your plans (you can order multiple copies)
- detailed specifications (the materials and finishes you plan to use)
- an estimate of the cost
- an appraisal (ordered by the lender. The appraiser will use the plans, specifications, and lot value to determine the amount)
- your lot information (if it is owned, etc.)
- Contractor offers (not necessarily mandatory, but could be if this is your first project)
You may also consider providing any other documentation you can think of that will help indicate your ability and readiness to complete your project. The bank essentially becomes a silent partner in your project and will see to it that the house is built correctly. Demonstrating your ability to handle the project is key here.