What Are The Requirements For A Construction Loan?
Author: Woodsboro Bank
A home is the biggest purchase many people will ever make, so it is understandable that some homebuyers are unwilling to compromise on certain features. Finding a home that meets your requirements when it comes to bedrooms, floor plans, yard space, location, and other factors can be very difficult, particularly when there is a limited number of homes on the market.
Some home buyers believe they will have to settle for something that does not meet their needs because they cannot afford to build a home to their specifications. However, a construction loan may make this possible for certain types of borrowers. Here is a look at the requirements for this type of loan.
What Is a Construction Loan?
In short, a construction loan is a short-term loan that can provide the money needed to build a new house from scratch. The lender will pay the money to the contractor in installments as different phases of construction are completed. Once the home is completed, you may pay off the loan in full or convert the construction loan to a conventional mortgage.
What Is Needed to Obtain a Home Construction Loan?
Here is a look at the requirements for a construction loan.
A Down Payment
Many lenders require a down payment in the range of 20 to 30 percent for a construction loan. This is higher than a conventional mortgage because there is more risk involved. With a conventional mortgage, the home serves as collateral; in a construction loan, the home has not yet been built and cannot serve as collateral. If you are able to provide a bigger down payment, you may have greater power in negotiating the terms of the loan.
Another reason that banks ask for a higher down payment is because it demonstrates your intent to see the project through to its conclusion. It can also provide cushioning for the bank if the project does not end up being worth as much money as the appraiser believes.
Credit Score Requirements
To be approved for a construction loan, you will need to have good to excellent credit. Many lenders will require a minimum credit score of 680.
One of the main requirements of a construction loan is an appraisal carried out by a licensed appraiser to estimate the value of the home. Because the house does not yet exist, the appraiser will look at the plans for the home as well as the value of the plot of land where it is being built and compare them to similar homes in comparable locations. This is not an exact science, but it will give the lender a good idea of the expected value of the end product.
Just like with mortgages, your lender will require you to submit a range of financial documents including tax returns, proof of your identity, pay stubs, and bank statements.
One of the requirements for obtaining a construction loan is hiring a licensed builder with a proven track record and a list of past and present projects to ensure that you are working with someone who is dependable and capable of building safe and sturdy homes. You may also be asked to supply a profit and loss report for the builder.
A Blue Book
Lenders want to see a clear building plan before providing money. Therefore, you must provide a blue book, which is a detailed description of every component of your construction plan, including the floor plans and specifications such as insulation, building materials, ceiling heights, and other factors. It will also include a general timeline of the project.
The lender will also ask for an inventory of the building materials that will be used and profit projections for the future of the home. All of the suppliers, contractors, and subcontractors who will be involved in the project must be named in the Blue Book.
Receiving the Loan Funds
Once the loan has been approved and closed, construction can get underway. Keep in mind that your lender will not be giving the money to you. Instead, the builder will request it from the lender in milestones according to the construction plan. Each time they request the funds, the lender will inspect the property to ensure that the phase has been completed properly. It is important to verify that the builder has paid subcontractors and suppliers before the next set of funds has been dispersed.
During the construction phase, you will typically only be responsible for paying the interest on the loan based on the amount of money that the lender has provided to the builder so far. Once the home has been completed, the loan can be converted into a conventional mortgage. Alternatively, you can repay it and seek a mortgage for the property.
Get In Touch With The Community Bankers At Woodsboro Bank
To discuss your homeownership goals and determine whether a construction loan is right for you, get in touch with the client-focused Maryland mortgage team at Woodsboro Bank today.