The Green Mortgage Team | What you Need to Know About Construction Mortgages

What you Need to Know About Construction Mortgages

With a hard hat on head and hammer in hand, you’ve made the courageous decision to build rather than buy! But before you can put down brick and mortar, you’ll need to know about construction mortgages. There are various types to choose from, meaning you’re bound to find the right financial vehicle to support your dreams of turning a dusty plot into a dreamy home. Here, we cover three major ones, as well as a couple of creative options.

Some essential construction mortgage info:

• Before you hire the designer and get carried away with balconies and spiralling staircases, take a look at your budget and your savings. A heads up: construction mortgages are more financially demanding than conventional ones. Mortgage lenders usually want a 25-50% down payment.

Construction Loans

A construction loan is short-term (usually only one year) and explicitly tailored toward an individual or a small construction company. You can use one whether you’re starting from scratch or refurbishing a home that’s gone a little beyond its sell-by-date. If you’re a builder or small construction company—good news—there are other creative ways to use these loans too!

How does a construction loan work?

A construction loan isn’t meant to cover the entire cost of your project. They’re used as a temporary financing bridge so you can cover the costs during build time. Once your home is ready to rock and roll, you’ll most likely refinance your construction loan into a more permanent mortgage.

If you’ve ever had experience with any other form of loan, you won’t be surprised to hear that construction loans have varying repayment conditions and rules. You might have to repay the loan off entirely once you’ve finished construction (scary!) or you might be required to make interest payments during the build. As always, the lender is the overall judge.

What can you do with construction loans?

Obviously, you can use construction loans to aid you in your building or refurbishing, but there’s room for creative thinking here. If you’re a builder or small construction company, these loans could contribute to your business growth. You might be wanting a new employee or a shiny new tool to make your competitors go starry-eyed.

The Progress Draw Mortgage

Here’s a construction mortgage that comes with four main stages. You’re given funds in installments corresponding to stages of your build. The lender sends a home inspector to spy—ahem—review your building process and make sure everything matches the schedule at each stage. The inspector sends progress reports to the lender who grants more funds as long as your construction is quality. If it’s not, they could withdraw funding.

Here’s the rundown on the four phases:

• Phase one: You receive your first sum when your land is purchased, and construction begins. At this point, you’ll probably be terrified of the commitment you’ve just made and unaware of the hundreds of splinters waiting for you…heads up, this phase is only granted when your land has little to no mortgage on it.

• Phase two: You’ll get this at 30-50% completion when the foundations are laid, and the windows and doors are installed. This is where you realize that pretending to read blueprints doesn’t make you cool, and you start adding 20% to every part of your budget.

• Phase three: At 65-70% completion, you’ll receive the next lump sum. You’ll also have a heating system and drywall ready to paint, alongside the gutting fear at 2am that your furniture won’t fit through the doorways that you forgot to measure. Not to mention the arguments with your partner about which shade of white is the best.

<p “=”” dir=”ltr” style=”text-align: justify;” tve-u-17c929004ef”=””>• Phase four: Congratulations and a stiff drink will be in order—this is the sum you receive once you’ve hit completion, or you’re just about to. You’ll have electricity, plumbing, and a livable home…wait, you did remember to order a mattress, right? <p “=”” dir=”ltr” style=”text-align: justify;” tve-u-17c929004ef”=””>A couple of other things to know about the Progress Draw Mortgage: you’ll need to have paid off as much of your plot as possible before the mortgage starts, and you pay separate fees each time the inspector comes. Basically, give extra love and attention to your inspector because they’re the ones who hold your fate in their hands!

The Completion Mortgage

A completion mortgage is often used by people working with a new home builder. The construction either needs to be finished or at a stage where you can move in. The builder knows he won’t be compensated until you move in. Due to the short time window for finalization, some lenders need you to place a down payment on the home. However, this down payment is paid in installments. Another condition might be that you need to hit completion within 120 days. This mortgage is used purely to pay the builder.

Because this mortgage isn’t official until 30 days before you take possession of your new home, you can make changes to the mortgage before then. You could increase it to finance upgrades during construction. This ties in wonderfully if you decide to go crazy and buy the really cool expensive taps! Or for that unforeseen charge from the electrician you never really liked.

What Happens Once Construction Is Finished?

The mortgage lender will allow the borrower to roll into a closed term once the construction is complete. Lenders will often have a refundable fee once the borrower has locked into a term or will charge a fee if the borrower does not lock into a term with them for a certain number of years.

The mortgage lenders don’t want to take the risk of financing someone during construction without the upside of getting the long-term mortgage on the low-risk loan of lending on a fully complete house. At this point, the borrower chooses a term, amortization, and other terms.

Other Creative Options

Suppose the borrower cannot obtain a mortgage approval for a construction loan due to a lack of capital or qualifications. In that case, it could make sense to engage a builder who will purchase the land and build a finished product instead. By doing this, the builder obtains the construction mortgage loan, and the buyer buys the finished product from the builder once complete.

There is a contract with a sizable deposit so both the buyer and the seller can feel comfortable that the transaction will complete once the property is built. The builder will generally take a bigger cut on the deal to accommodate for their financing costs and additional risks (such as the buyer walking away from their contract), but this can be a way to still own a home that is custom-built.

What You Need to Know

If you’ve got that construction itch that won’t go away, we bet it’s been nice to read that you’ve got financial options. While construction mortgages are more difficult to obtain than their conventional cousins, put the right steps in and get all your i’s dotted and you’ll be transforming that plot of land before you know it.

If building from the ground up is your yellow-brick road to home, just remember that you’ll need more capital than normal. We’ve crunched the numbers and figured that you’d need approximately 50% of your overall land cost, plus construction costs to get approved. If that makes you want to run for the hills, have another read of the creative options available.

Got some construction plans up your sleeve? We’d love to hear everything! If you’re ready to hunt out the best option for your home-building project, look no further. Our experienced team would love to help your plot of land be home to much more than weeds.

-Kyle Green

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