Building your dream home from the ground up might be an exciting prospect. After all, you get to design the space as you have always wanted. You can determine the precise layout and customize your own fittings and fixtures to suit your lifestyle. However, the last thing you want to worry about is financing.
Most homebuyers may not have sufficient funds to cover the costs of constructing their type of dream home. This means that they will have to take out a loan. But, financing a new home build is entirely different from getting a mortgage for an existing home. Here are a few important things that you need to keep in mind before you throw yourself into the home construction ring.
Set Up A Budget
Someone once rightly said that “success happens when preparation meets opportunity.” It is vital that you prepare early in the process. First of all, you must sit down and identify your budget. This will help you make decisions on cost allowances for lighting, fixtures flooring, finishes you want, which appliances to get, and more. The actual expenditure can exceed the planned amount when building a home. So you should research the construction and material costs upfront to help prevent any expensive upgrades, or modifications later on. Also, do not forget to add a contingency fund for unexpected expenses in your budget.
Lay the Groundwork/ Prepare Early
When preparing to apply for a new build loan, you must do some serious stretching as it is a bit more complicated than obtaining a mortgage. You will need to do a ton of legwork and go through numerous loops to prove to your lender that your project is viable, real, and of low risk. For this most lenders will require a realistic budget and a lot of construction details like floor plans, wall and ceiling insulation, roofing, and foundation.
Work With A Licensed Builder And Get Pre-approved:
Most lenders have a set of builder standards that a builder needs to meet before they approve of the loan. It is one way of ensuring that your financial investment in the home is protected. So, to gain approval for a new build you will need to prove that your builder is qualified with an established home-building reputation. However, do compare different builders to find the right combination of expertise and price that fits your specific needs.
Getting a pre-approval is a critical step to understand early on about your home build and the financing options available. It will also help you know how much you can afford for the project and plan accordingly.
Understanding the Two Main Types Of Construction Loans
Construction loans have higher fees and costs than traditional mortgages as they pose a larger risk for the lender. The two main types of loans lenders handle are Construction-only loans and Construction-to-permanent loans.
1. Construction-only loan: This type of loan provides funds to complete the construction of the home. Once the construction is done the loan should be paid back in full (generally in one year or less) or refinanced into a mortgage to secure permanent financing. It requires two application processes and a separate (second) closing. The interest rates are based on the rates at that time and so less predictable.
2. Construction-to-permanent loan: This type of loan is also sometimes called a single-close loan. In this type of loan, the lender will convert the construction loan into a permanent mortgage once the home is constructed and you move in. The benefits of this type of mortgage is that:
- You have only one set of closing costs to pay and thus reduce your overall fees.
- It allows borrowers to lock in their interest rates at the beginning of construction. So, they need not have to worry about rate fluctuations while the home is being built.
- Lenders generally allow you to pay interest only during the home building process. This makes it more affordable.
Though a construction-to-permanent loan is more streamlined not all lenders offer it to every borrower. So, you need to discuss both these options with your lender and figure out which is the right one for your circumstances.
No matter which type of loan you choose the lender has the option to schedule inspections throughout the construction process to check if the process is going as planned.
Prepare For Stricter Qualification Requirements
To win approval for a new build you will need to provide additional documentation and asset information over and above the requirements of an already-built home. Besides, you will also need:
- A down payment of at least 20%.
- A Good to Excellent credit score of 680-720.
- A Low Debt-to-Income ratio not higher than 45%.
- Adequate savings account to cover any unexpected costs throughout the process.
There is a lot to consider when you choose to build your own home. Make sure that you know all details of the different financing options available and choose one that fits your unique needs.