General
preparations | Building
lot/property | Home
plans/Specifications | Engineering
| Building permit
| Subcontractors and
bidding |
Lien Waiver | Contracts
and scheduling | Financing
Whether you are building your dream home or adding
on to your current home, you are going to need money.
Unless you have substantial savings, you will need
to get financing. However, don't be discouraged if
you don't have much money, with a little resourcefulness
you can still get your project off the ground.
To contract your own home you will need a construction
loan and permanent loan. The construction loan is
a short term loan (6-12 months) used for the construction
of the house.
Before a
bank will approve a construction loan they will require
that long-term financing be secured. They will also
look at the appraisal of the property, and the cost
breakdowns of the project. They will want to make
sure that the house can be built for the amount of
the construction loan. If the breakdowns are not realistic
they may ask for revisions and more bids, or they
may suspend or deny the loan entirely. For example,
if the house appraises for $150,000 and you claim
to be able to build the house for $105,000 the bank
will want to know how that can be done. If the bank
knows that you as an owner-builder will provide some
of the labor they know that may be possible.
The bank makes a profit by charging fees and interest
on a construction loan. The interest rate on a construction
loan is 1-2 points higher than a the long-term mortgage
rate. For example if a competitive 30 year mortgage
is currently at 9% the bank may charge between 10-11%
for the construction loan.
Once the construction
loan is approved, the building process can begin (assuming
that you have acquired a building permit). As work
is completed, monthly draw request are submitted to
the bank and then paid out to the subcontractors and
suppliers. The bank will make periodic inspections
to ensure that the material and labor relating to
the draws are on site and installed.
At the completion of the project the long-term financing
pays off the construction loan.
Generally the bank lending construction money will
require that the building lot is at least 50% paid
off. Otherwise they will not make a construction loan.
This 50% acts as a large down payment. It is their
"insurance policy" project fails.
It also common to have
a property owner subordinate their position to the
bank. This means that the property owner take a position
as a creditor to your project but in "second
position". In other words, if you fail to complete
the house on time and on budget and the bank repossesses
the property, the bank will recover all of their expenses
before the property owner is paid for the cost of
the property. It is possible that no money will be
left to pay the property owner in which case he will
have to try and recover money from the owner-builder.
The property owner, like a bank wants to make sure
that you can build the house on time and on budget
and he usually asks for a down payment and a payment
schedule or a date for full payment of the loan. If
a property is "less desirable" or you live
in a "buyers market" subordination is common.
Before you can apply for a construction loan you will
need to be approved for permanent financing. The lending
company will want to appraise the future value of
the home and property (by checking the plans and specs).
Once they arrive at an appraised price they can determine
the amount they will lend. Usually it is a percentage
of the total value. For example, if your home and
property appraise for 100,000, they may lend up to
95% or $95,000 on a conventional loan. They will also
determine your loan amount by debt ratios, credit
history, and income.
Banks, credit unions,
mortgage brokers, private, family, savings, Equity
from home sale, Retirement funds (i.e. 401k) are some
of the more common sources of building financing.
Banks
provide both construction and long-term loans. However,
they often have more difficult underwriting guidelines
and more policies regarding owner builders than credit
unions and mortgage brokers
Credit Unions
provide competitive long-term loans and in some cases
construction loans also. They often provide a construction
to permanent loan which reduces the loan fees by combining
the loans into a package loan.
Mortgage brokers
can usually get very competitive rates for long-term
mortgages, however they often don't provide construction
loans.
Private financing
for owner builders is common for a construction loan
because formal lending institutions often restrict
such loans to those who are licensed and insured contractors.
However, this usually means higher interest rates.
Savings/IRA-Savings
are an important aspect when building a house. The
more money that you have at your disposal the more
favorable in the eyes of the bank.
Collateral
such as property that you own or equity in your existing
home, can be used for a construction loan.
Family/relatives
can also be a source construction money.
