We have found there are two types of buyers when it comes to financing. One type is against carrying debt and paying interest. The other type wants to keep more liquidity and use leverage to create their vision. Every family’s situation is different and we work equally well with both types. However, if you choose to obtain a mortgage there several options that are available. Below is how the financing process works followed by some options that might be available to you.
During your initial meeting the budget for your home will be discussed. Home site prices vary drastically with area, so it’s important for you to find the right area of town for your budget. If you already own a lot then just the house budget needs to be clarified.
Once you have determined your lot budget you are ready for the design process. We have an architect for you to work with that can help facilitate the whole design process or we can use designs from your architect. If you use your own architect we are more than happy to give some feedback and suggestions that might save some money if you like. From the conceptual design we will provide you an initial budget to work from. If you and the lender are comfortable with the budget we can move forward and refine the design.
During the refining of the design stage the budget could change based on selections you make. For example, if you want to add some details like custom lighting for your artwork the budget might need to be increased. We try to be as thorough as possible during the refine design stage, but there are always some changes you will want to make during construction. Please keep this in mind when thinking about the budget and plan accordingly with your lender.
Once we have determined the lot cost and construction budget it’s now time for your lender to conduct an appraisal. The bank usually charges around $500 to hire an independent appraiser.
Once the loan is approved we can move forward with construction. Thee process may seem daunting at first, but we are here to work with the lender through the entire process.
Construction to Permanent Financing
This is the most common way to finance the construction of a custom primary residence providing both the construction financing and the permanent portion of the loan. There are quite a few programs available through various lenders including 30-year fixed loans and Adjustable Rate options as well. The required down payment will vary from lender to lender and your personal qualifications. Some lenders provide a “One-time Close” while others may offer separate construction and permanent loans to fit your needs.
One potential benefit of a Construction to Permanent Loan is the ability to lock in the permanent rate at closing and have up to 12 months to complete the construction. During this period the payment is usually interest only. When the construction is completed, the permanent loan period begins and principal and interest on the loan begins.
The loan can only close once architectural plans, the price to build the home is determined, and a contract with the builders is signed. This can pose a problem in that, in some cases, you aren’t going to close on a lot with architectural drawings, the pricing, and the builder’s contract in hand, and you don’t want to spend money on architectural drawings before you close on the lot (what if the deal falls through and you don’t purchase the lot?). This is where the lending process can get frustrating for homeowners because it’s a chicken or the egg kind of scenario. You can’t get the loan without the drawings, but you don’t want to spend money on architectural drawings until the lot is closed. However, there are some solutions.
Lot Loan – One way to solve the problem is to obtain a loan for the lot only. Once you have the necessary drawings, pricing, and contract you can refinance the lot into a construction-to-permanent loan. The main disadvantage is that you have to pay closing costs twice.
Pay Cash for the Lot – The easiest and most cost effective way to solve the problem is to pay cash for the lot and then refinance into the construction-to-permanent loan once you have all the pieces in place. You will still pay slightly higher closing costs, because you are closing twice, but it’s usually less than getting a lot loan.
Buy One of Our Available Lots – This is the most cost effective solution. We enter into a contract, help design your home, price it out for you and package it up for presentation to your lender.
In regards to down payment lenders are typically looking for 20% of the total price. However, the mortgage business is constantly changing and they will take into account your personal financial situation. We’ve seen down payments as high as 35% and as low as 0%, but 20% is the most common.
The construction portion of the loan usually has a higher interest rate than the permanent loan and can range from 7% to 13% depending on your lender and your particular financial situation. However, the payments will be about the same or lower than your permanent financing because you are paying interest only. Once construction is complete, and the loan rolls over to the permanent portion, the interest rate should be much lower. Current market rates are close to historical lows and are ranging in the mid 4%, but can be higher or lower depending, once again, on your personal financial situation.
Stand Alone Construction Financing
Another way to finance your custom home is to obtain a construction loan separate from your permanent loan with the goal of paying off the construction loan through a refinance upon completion. It’s very similar to the construction to permanent financing option above, however, the construction and permanant financing loans are separate and distinct.
You may be wondering why someone would want to separate them out. One reason may be that the homebuyer has a substantial amount of cash coming to them within the next few months (for example, the current house they are living in hasn’t sold yet and the plan is to use the sale proceeds to pay for their custom home) and will just pay off the loan in cash. They just need to bridge the gap for a few months.
Stand Alone Permanent Financing
Another common option for homeowners is to pay cash for the lot and the construction and then obtain financing once the home is complete to recoup their out of pocket expenses. One of the reasons homeowners like this option is they can sometimes get into their dream home without a substantial down payment. For example, let’s assume the home appraised, after construction, for $1,100,000. However, the cost to purchase the lot and build the home was $800,000. The homeowner could potentially obtain a loan for $800,000 and recoup the entire amount. This is because they would have more than 20% equity already in the home ($1,100,000 * 80% = $880,000). However, banks usually will not lend more than what the home cost to build so the maximum loan would be $800,000. The loan-to-value (LTV) would be 72.7%, which is below most banks 80% LTV threshold.