If you are in the market for building a custom home, you have likely owned a home before and are somewhat familiar with the home loan process. There are a few key differences when financing your custom home build, and understanding these points is necessary in order to feel financially secure when moving forward. The process of building a custom home is no small feat and takes a lot of legwork before you even break ground. Planning and researching the process, as well as creating a game plan for the entire project, are some of the most important things you can do for yourself before you get started. Keep reading for some tips on financing your custom home in Northern Colorado, and for information on how to get started, please don’t hesitate contacting our home builders.
Many custom home builders do not own the land that the home will be built on, meaning that you will need to purchase the land prior to getting a construction loan. Securing a land loan can be pretty simple — once your application is approved, the inspection and appraisal are pretty straightforward and quick. You will also close your loan at a title company, just like if you were purchasing a home. For a land loan, you may expect the following:
- A 20-25% down payment.
- A 1-year-term (short-term since the intent is to build a home on the land, but the term can be extended).
- Higher interest rates, usually 1-2%.
One of the first key differences in understanding how to finance a custom home build is that a standard mortgage loan won’t do the trick. For buyers scanning the market for an existing home, it is relatively easy to get approved for a conventional mortgage, with the expectations of a good credit score and reliable income. It is much harder to find traditional financing when you are building your own home for this critical reason: you are essentially asking the lender to finance something that doesn’t exist yet. Plus, construction is a risky process — a risk that some lenders don’t want to entertain.
So, instead what you should do is seek out a construction loan, a more specialized financing avenue that will be used to cover the cost of building your home. Sometimes called a self-build loan or construction mortgage, these loans generally have higher variable rates, but give you the option of refinancing the construction loan into a permanent mortgage, or getting a new loan to pay off the construction loan.
Requirements of a Construction Loan
There is a lot of groundwork that comes with a construction loan.
- Borrower will need to provide the lender with a project timetable and a realistic budget.
- Borrower will need to supply a comprehensive list of construction details, including everything from floor plans and the type of building materials and ceiling heights.
- Borrower should expect to pay a sizable down payment that can range from 20% to 25%.
For new-home construction loans, it may be worth considering a community banker that knows the local regional marketplace, but brokers advertising online may also be worth checking out. This largely depends on personal preferences.
If you have only got minimal cash to make a down payment, and your credit score has a few blemishes, a federal government-backed loan is most likely your best choice. FHA, or Federal Housing Administration, loans allow down payments as low as 3.5 percent and go along with generous credit underwriting.
These loans require no down payment, but you must be a veteran to qualify. Since their introduction in 1944, VA home loans have been used to help people purchase existing homes as well as help those who dream of building a custom home. It is a great loan option for veterans, active duty service members, and widowed military spouses. The VA must approve both the lender and builder in order to qualify. Once construction is completed, the loan can then be transitioned into a residential mortgage loan.
Requirements of a VA Construction Loan
Since many lenders consider construction loans as a higher risk investment, there are usually more requirements and guidelines in place.
- Borrowers must acquire a Certificate of Enrollment from the VA
- Builders must be licensed, insured, and willing to become an approved builder
- Builders will be required to take on greater responsibility for the loan. All parties will likely need to have a detailed understanding of financial requirements.
- Complete plans and specifics must be submitted by the borrower and builder at the time of application.
- Homes must be common in size and design, while land should not be larger than what is considered standard and customary for the areas. VA appraisals on both are required to complete the process.
- Borrowers may be required to provide a down payment.
- VA Home Loan requirements will still apply.
Once construction is complete, the loan will need to be transitioned into a permanent loan. One option you may consider is to refinance. The lender will put together a new loan application, order a new appraisal, and prepare a traditional home mortgage loan. The LTV will be determined from the appraisal of the completed home and as your strength as a borrower. You should be able to choose from 10-,12-,20-, and 30-year fixed interest programs, as well as 3/1,5/1, 7/1, and 10/1 adjustable-rate mortgages.
Talk with your lender about other options they have available for you to take advantage of. They may also provide you with a “One-Time Close” loan, in which your construction and permanent loans are combined into one.
When financing your custom home build, remember your power as a lender. Ask questions on anything you don’t understand, and remember that nobody expects you to be an expert, so you should feel comfortable talking to your builder and their lender referrals in-depth about all finance options.
Building a home is a once-in-a-lifetime achievement! Splittgerber would consider it a privilege to work with you to design and build the home of your dreams. If you want to learn more about us and our process, don’t hesitate to reach out to our team. Give us a call today.