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When it comes to financing a construction project, there are several options available to you. Depending on the lender, your situation, and whether you own the land, can all change the options available to you.
Let’s start with the basics.
Your Two Options: Builder or Buyer Financed.
Builder financed is typically done in subdivisions so the builder or developer can maintain control of the overall project. Buyer financed construction is done on “scattered lots” so the builder can avoid ending up with “spec” homes that are difficult to sell. This option is almost universally required on custom builds.
In both cases, the borrower will be paying for the cost of financing the construction, either transparently in the price of the home or visibly in the cost of the permanent construction loan. Also, in both cases, a final Certificate of Occupancy is required to close, as temporaries are not allowed.
The borrower is the owner of the record throughout the entire process, making monthly interest-only payments during the construction phase based on the amount drawn. The qualifications for the loan are based on the permanent loan terms. For example, most lenders will only finance owner-occupied and secondary residences.
Investment properties are considered commercial transactions and, when it comes to closing on a loan, there are two types:
Single-Closing & Two-Closing Transactions.
Single-Closing Transactions have stricter underwriting guidelines, and the Loan-To-Value (LTV) is calculated using the lesser of appraised value and acquisition cost. Before moving forward, an LTV describes the size of a loan compared to the value of the property securing the loan.
A Construction Loan is modified or adjusted to the permanent terms, thus the “Single-Close” labeling. Because the loan documents specify the terms of the permanent financing, the construction loan will automatically convert to a permanent long-term mortgage upon completion of the construction.
Eligible loan purposes for Single-Closing transactions:
- Purchase Transaction: Borrower does not own the lot before loan application
- LTV calculated using the lesser of the “subject to” appraised value or acquisition cost.
- Limited Cash-Out Refinance Transaction: Borrower owns the lot before loan application
- LTV calculated using the “subject to” appraised value.
Two-Closing Transactions are the most common and flexible structure, having more flexible underwriting guidelines. The LTV is calculated using appraised value, and equity is considered towards down-payment.
The main difference between the two transactions are the types of documents signed at conversion. Two-closing construction-to-permanent mortgage transactions utilize two separate loan closings with two separate sets of legal documents. Even though there are two notes, it is still considered one transaction.
Eligible loan purposes for Two-Closing Transactions:
- Limited Cash-Out Refinance Transaction
- Cash-Out Refinance Transaction: Land was owned at least six months before closing construction loan.
- LTV is calculated based on the “subject to” value of the project.
This process can vary depending on what you’re looking for and how you’d like to finance the construction. In everything that is done, communication is key to a successful transaction! Which is great, because we’re excellent at that. Contact us today so Loan Officer can help you finance your next construction operation with the option perfect for you.
The appraisal process for financing new construction can seem complicated at first but, as with everything else in this process, the steps you take are determined by how you’d like to finance the construction.
The two options here are if the builder will finance, or if the buyer will finance.
If you’d like the builder to fund the construction, then a “subject to” appraisal will be performed at the time of the initial underwriting.
A “subject to” appraisal is where the value of the land is based off what the home will be worth in the future. It helps you evaluate the home after the improvements have been made. “Subject to” appraisals are a good way to make sure you don’t “over improve” your home.
Appraisals are good for 120 days (180 days for Veterans Affairs Loans (VA)). If the house is not completed within this time, either a “Recertification of Value” or a new appraisal will be completed by the appraiser before the purchase is finished.
When the house is complete, the appraiser will provide a “Final Inspection” report. It’s important to note that if the builder finances the construction, the Loan-To-Value (LTV) is calculated by using the lesser of the purchase price or the appraisal.
The other side of the coin is if you – or the buyer – will be financing the construction.
In this process, there are no drastic differences between this and builder financed. This appraisal process starts off with a “subject to” appraisal performed at the time of the initial underwriting. The appraisals are still good for 120 days (180 days for VA).
If the house is not completed within this period, either the appraiser will complete a “Recertification of Value” or a new appraisal (VA exception).
When the house is complete, the appraiser will provide a “Final Inspection” report. The main difference here is that the overall cost is directly correlated to the cost of building the house.
Whether you or the builder finance the home, the process is meant to be as seamless and intuitive as possible. Some people may not know the steps to take or the questions to ask, but that’s why we’re here. Contact our Loan Officer today to find out how we can help you finance your next construction build!