Types of Construction Loans

by Craig Kieswetter

When applying for a construction loan, one of the first things that you should decide is which type of loan you want to apply for.  A construction loan is a short-term loan.  It will only cover the costs of a custom home build so once you have your home built, you will have to apply for a mortgage.  This type of loan is considered specialty financing.  There are different loans available, from building the home from the ground up to a total remodel of the home.

One thing that you will need before applying for any loan is a property reportThis is a legal document that shows improvements relative to the property limits.  It will show you the easements, rights-of-way, and restrictive covenants of your property.  It will also identify any above-ground permanent features and how close they are in regards to the property line.

Some of these loans include:

  • Construction -only—this is a loan that is generally issued for twelve months and is meant to cover the actual construction time and no longer.  It is considered a high-risk loan because there are so many variables such as the cooperation of the builder and getting approval from the municipalities locally.  They are harder to qualify for.  There is also a possibility of a higher interest rate than a traditional loan.  With this loan, you will also have to pay second loan fees when you apply for a traditional mortgage.
  • Renovation—this is the type of loan you would get for a home renovation.  It is insured by the Federal Housing Administration (FDA), which will let the borrowers purchase and renovate their new homes.  They will make one payment each month to cover both costs.
  • Construction-to-permanent—this is a financing option for custom home builders.  These are also one-time loans.  They will fund the construction of the home and when the home is finished, it will be converted into a regular mortgage loan.  During the construction phase, you will only pay for the interest.  They are more expensive than traditional mortgages.
  • Owner-builder—generally when you build a home there is a general contractor, who is head of the entire operation.  They manage all of the subcontractors and workers.  The general contractor is also the one that works to get the home done on time and within budget.  If you want to act as your own general contractor, there are some banks that will offer this type of loan just for this reason.  They will usually require that the one borrowing the money demonstrate through education, licensing, and experience that the borrower has the expertise to do the construction and oversee what they cannot do.
  • End—this is a traditional mortgage loan that you can apply for after the construction is done.  It is the same mortgage application that you would apply for on any home.

Conclusion

Before you apply for a construction loan, visit your financial institute and talk to them about the best loan for your needs.  Also, check and see if you need to obtain a property report too.

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