Homebuyers

Build the Home You’ve Always Dreamed of with a Construction Loan

If you haven’t found a home that checks off all your boxes, don’t fret. With a construction loan, you may be able to design the home you’ve always wanted and have it built to your specifications from the ground up.  

These mortgages are specifically designed for new construction. Their purpose is to provide you with the funds you need to buy a plot of land and bring your vision to life. 

What is a construction loan?

A construction loan is a short-term, one-time close loan used to cover the cost of land and the construction of a new home.

“Construction loans help fund the land purchase, building materials, labor costs, permits, utilities, inspections, and fees,” said Daniel Solis, a branch manager at New American Funding based in Virginia Beach, Va.

During the construction phase, you’ll only pay interest on your loan. This means your monthly housing payments will be lower until you get into your new home.

Once your home is built, your mortgage becomes more like a traditional home loan. Your payments typically rise as you begin paying off the principal as well as the interest.  

“Leverage [a one-time close loan] to purchase the ideal piece of land and build something in a place you love,” said Solis.

What are the downsides to using a construction loan to build a home?

Interest rates for construction loans are usually higher than those of traditional mortgages as these loans are a little riskier. There are often delays involved with construction and materials and appliances costs can rise.

That’s why the loan approval process may be more extensive. You’re asking your lender to loan you money for a home that doesn’t exist yet. You’ll need to prove you have a reputable builder and a strong plan in place. 

Additionally, if things don't go as planned and you need additional funds to complete your home, you may have to come up with them on your own. For this reason, an emergency financing strategy is vital. 

How to qualify for a construction loan to build a home

Qualifying for a construction loan is a lot like qualifying for other types of mortgages. You’ll need a solid credit score, steady income, and a down payment. The size of your down payment may range from 0% to 20%, depending on your loan type. 

“However, there is an added [mortgage] vetting process for the builder as well as for the plans and specs of the proposed home,” said Solis. “The builder must turn in documents for loan approval.”

Generally, a home inspection upon completion is also required. 

How to get a construction loan for a new home

Once you decide to pursue a construction loan, the first step is to get pre-approved for a loan. 

“Otherwise, you may plan out your dream home and later find out you can’t actually afford it,” said Solis.

Then, you will need to find a reputable architect and/or builder. 

Do some research and evaluate which builder most fits your style by comparing their portfolios and reading reviews. You can also ask your network for recommendations.

Then you will want to work with them to come up with a plan for your new home. This should include all of the specifications of the home that you can submit to your lender. Be as detailed as possible to increase your chances of locking in the best interest rate.

Next, formally apply for a construction loan online or in-person. To do so, you’ll need to agree to a credit check and share pay stubs, at least two years of W-2 tax forms, and bank statements with your lender.

Upon approval, you can close on the loan and let the fun (aka the construction) begin.

“It’s also important to work with a real estate agent who has experience with new construction,” said Solis. “You don’t want to end up with a delay in financing or construction because of inexperience.”

Daniel Solis NMLS # 1407785