With low housing inventory remaining a concern for prospective homebuyers, construction loans have become a path to homeownership for those who can’t wait for more new homes to hit the market. These little-known loans can be a helpful way to make your vision a reality. Here’s what you need to know about construction loans and the different ways you can make your dreams of homeownership (or renovating) a reality.
What is a Construction Loan?
A construction loan is a short-term loan intended to be used for the construction of a residential property. While mortgage loans are generally long-term loans that help you finance the purchase of an existing property (whereby the loan is secured), construction loans help prospective homeowners finance the construction of their future home.
Generally, a construction loan is a short-term loan that provides you with funds to cover the costs of building or rehabilitating a home. Construction loans typically carry higher interest rates than longer-term mortgage loans used to purchase homes. Money from a construction loan is typically paid out in a series of advances as construction progresses. Sometimes, payments on a construction loan begin between 6 and 24 months after the loan is made.
You can pay off the balance in one lump sum or you could convert the loan to a conventional mortgage loan, though if your construction loan doesn’t automatically convert, you may need to reapply for a new loan. Your options will depend on the lender and your credit history at the time you apply, so don’t forget to compare multiple loans, their terms and features.
A construction loan is a type of loan option use when doing renovations or construction projects on a residential property. These loans are typically characterize by high interest rates and relatively short loan terms, usually just one year.
Construction loans can also be use to build commercial projects.
How Does a Construction Loan Work?
Construction loans differ from mortgages in many ways. In addition to their short terms, they also tend to have higher interest rates.
Who Is Eligible For A Construction Loan?
One way a construction loan can be similar to a mortgage is that a down payment may be require. For a construction loan, this helps ensure the lender’s commitment to the project.
In addition to being able to cover a down payment, a prospective borrower may also be require to have a minimum credit score, provide financial documents such as bank statements, and share plans for the propose building.
Please note that different lenders will have different requirements. Depending on your project and your personal finances, a different type of loan may be better suited to your needs, so be open to alternatives and discuss them with an experienced lending partner.
Are There Different Types Of Construction Loans?
Construction loans are not all the same. They come in many forms to meet the needs of each individual buyer or homeowner.
So how do you know which type of construction loan is right for you? It all depends on your situation.
Read below to learn all about the different types of construction loan options.
LOANS FOR CONSTRUCTION ONLY
This is the simplest version of these loans. Essentially, the borrowed money will cover the full cost of the construction project. But must be repay in full by the borrower at the end of the one-year loan period.
PERMANENT CONSTRUCTION LOANS
Unlike a construction-only loan, these loans do not necessarily have to be pay in full at the end of the loan period. Instead, once the year is up, the loan becomes a permanent mortgage. The borrower can continue to make payments through this channel as needed.
OWNER-BUILDER CONSTRUCTION LOANS
What makes this version unique is that the person who borrows the money is also the person who does the work for the construction project. It allows both parties to save money on hiring contractors. But lenders are often more hesitant to make these loans due to the risk and complexity of building a home.
This version offers special rates for homeowners just looking to make alterations to an existing home rather than build one from scratch. These types of loans also vary in structure depending on the needs of the borrower.