Common Home Construction Loan Types

A construction loan is one of the very first steps in the home building or remodeling process.  This allows you to know the scope of the project you qualify for. But where do you start? You have probably applied for home loans in the past but will it be the same for a construction loan?  A construction loan is somewhat different from any mortgage you may have applied for in the past, and, depending upon your needs, there are several types of loans available. Once a loan is approved, the money is put into an account from which you will draw funds as needed to pay your suppliers and subcontractors.  While lenders you talk with might offer these loans with different features, there are basically 4 types of loans available.

THE 4 TYPES OF LOANS

1. Construction to Permanent Loans - this loan takes you through construction and allows you to convert to your permanent home loan when your home is finished.  You would only close on the loan once which means you only pay closing costs one time.  With this type of loan, many lenders will give you rate protection.  What this means to you is if the interest rate goes up during construction, you will be locked in at the lower rate you committed to when you closed. If the interest rate has gone down by the time you complete your home, you would receive the lower rate when you convert to a permanent loan.  In addition, you would not make any payments during construction.

Two types of construction loans. The two basic types of construction loans used by homeowners are one-time-close loans, and two-time-close loans. In all construction loans, money is disbursed by the lender based on a pre-established draw schedule, so much money upon completion of the foundation, so much upon completion of the rough frame, and so on. The goal is to only pay for what has been completed, minus retainage, typically 10 percent of the cost of the project, which is held back until everything is completed properly and the owner is issued a certificate of occupancy (CO).

2. Lot Loans - What if you find a great lot before you are ready to build your dream home?  No problem! You can obtain a loan for the lot and purchase it in anticipation of building on it in the future.  The requirements from most lenders are that the lot is normal for that area and at least one utility be available from the street.

3.  Bridge Loans - If you don't want to sell your current house before your new house is built, you can access the equity in your current house to use as a down payment on your Construction to Permanent loan.

4.  Remodeling Loans - If you are making major improvements to your primary residence, this second mortgage calculates the value of your home by adding the planned improvements to your home's current value.  With many lenders, you then receive immediate access to the funds at loan closing.