Funding Your Project
Unless you have enough cash available to
cover construction costs, you will probably be faced with getting
a Home Building Loan to fund the project and Permanent
Financing which you will pay off over 15-30 years. We say "probably" because
it is possible to avoid construction financing if you build fast
There was a builder in Oregon who developed
a system of construction that allowed him to build homes from
start to finish in less than two weeks (Builder, November 1,
The homes were all "pre-sales" .
. . that is, he had a contract on each home before construction
began. He was ready to "close" on the home (complete
the sale and get his money from the buyer) before most of the construction
costs even came due!
Most of us, however, will not be able to duplicate that feat,
and will thus be faced with securing the necessary construction
The first step is to get qualified for your permanent financing.
First you'll want to determine how much home you can afford to
build - or maybe just how much you want to build. How much you
can afford depends on your disposable income. In other words, how
big a house payment you can afford to make.
Of course that's a gross simplification! There are other considerations
- like, for instance, how much cash (down payment) you have to
put into the project and how good your credit is.
You can meet with your lender (which you'll have to do eventually!)
or you can get a pretty good idea online. There are hundreds of
sites. Here's a couple.
Your credit rating
Prequalifying for a loan
In case you're wondering how this all works, lenders use certain
(qualifying) formulas to tell how much you can afford. All this
is explained in our section on developing your budget.
will have slightly different rules for home building loans, some
of which may be more stringent for Owner Builders.
Bottom line -
The lender wants to cover his behind. If you're going to be an
Owner Builder, he'll not only want to know that you can repay
the loan, but equally (or even more) importantly - that you can
successfully carry it off (the Builder part), before committing
to a home building loan.
Once you're qualified for the permanent financing, you can get
to the particulars of the construction loan. Click here to find
out more, including sources of home construction loans, what you
should know about appraisers and appraisals, the cost of the loan,
about 100% financing, and more.
So where do you start looking for the money? Many of you will
already have banking connections. Perhaps you already have a home
loan. Maybe you've even had a home built for you.
If so, you know
where to start. If this is your first time, not to worry. Remember,
one out of every ten homes built in this country are owner built!
So there are a lot of lenders out there looking for your business.
Sources of Funds
Here are some places you may explore in getting your home building loan
There are many
sources you may consider in seeking your home building loan. The
most common source is a commercial bank, a credit union, or a pension
If you are a veteran, you may want to look
at getting a VA construction loan. The terms are usually very
attractive. For details, call your local VA office or click here.
If your prospective home fits certain guidelines, it may qualify
for an FHA guaranteed loan. These loans are available through
approved participating lending institutions and are regulated by
the Federal Housing Authority - a part of the Department
of Housing and Urban Development (HUD). The FHA guarantee makes the lender
feel a lot safer.
An FHA guaranteed loan might carry a lower
down payment and a lower interest rate. However, there is a price
to pay. The FHA loan has a ceiling (upper limit) on the price
of the home.
Also, there may be a fee involved (called "points") that will improve
the yield of the loan - thus making it more attractive to the institution
that will eventually purchase it from your lender.
will "pay" for a VA or FHA loan in the time and money it costs
to have your home inspected during construction by a government
site will get you started in finding out
if you qualify for an FHA insured loan, and in finding an approved
FHA lender. Although it primarily deals with home purchases, its
information applies as well to new home construction as far as
qualifying for the permanent loan.
FmHA Home Mortgage Loans
In rural areas, the Rural
Economic and Community Development (formerly the Farmer's Home
Administration, FmHA) offers direct mortgage loans to buyers who
fall within some relatively strict guidelines.
This program is a straight government subsidy, with money allocated
to local offices on a quarterly basis.
The office processes the mortgage application as soon as you apply,
generally before you've found a house, and then notifies you when
the money becomes available.
Depending on the area, some offices will have money available
immediately, others will have a waiting list up to several months
Check them out here.
Of course there are also private
sources of construction financing. You may have an easier time
convincing a friend or relative that you are qualified to contract
your own home than you would a banker.
You could pay a flat fee
or an interest rate for the money. A good tactic is to offer more
than they could earn on their money if it were simply sitting in
a savings account or a certificate of deposit.
Once the home is completed, you should
have no problem getting permanent financing (which is used to
pay off the home building loan). This is because your own
experience and abilities are no longer a factor.
The home itself
guarantees the permanent loan. Incidentally, permanent financing
really isn't permanent . . . it just runs so long (30 years)
that it seems permanent!
The Secondary Market
Perhaps you have heard or
read about "Fannie Mae" loans. This
is not a source for you to obtain construction or permanent
financing. This cute name stands for the Federal National Mortgage
Association, which is a stockholder-owned institution, operating
under a congressional charter.
It is engaged in the secondary mortgage
market. That is, it will purchase your loan (mortgage) from your
local bank and sell it to an investor like an insurance company
or a pension fund for a labor union.
Fannie Mae's "brother" organization is "Freddie Mack," the Federal Home Loan Mortgage Corporation. Because of poor management, the collapse of the housing bubble and subsequent $700 billion bail-out of the U.S. financial institutions in 2008, the federal government put Fannie Mae and Freddie Mac under the conservatorship of the Federal Housing Finance Agency (FHFA) in September of 2008.
The Permanent Loan
As I mentioned above, the place to start with
your financing is to qualify for your permanent financing. This
is familiar territory for most people. Explaining all the ends
and outs of home loans is outside the scope of this site. There's
already tons of information about home mortgages on the net.
besides, we're not experts on this subject! We're here to help
you build your own home. Irregardless (I've always wanted to
use that word!) here are some of the old options. It's gotten a
lot more complicated today. Here's a good site for more.
The "Standard" Loan
typical permanent loan will be for 80-90% of the appraised value
of the home, with a fixed mortgage payment for 15-30 years. An
alternative is presented below. No lender will advance a construction
loan until he has qualified you for a permanent loan as well.
Adjustable Rate Mortgage
If you end up getting
separate construction and permanent financing, as opposed to a
roll over loan (explained below) you may want to look at an Adjustable
Rate Mortgage (ARM) - sometimes called a Variable Rate Mortgage
(VRM). Your lender may even be able to tie one of these into
a roll-over situation (see below). The ARM has several features
that may make it attractive to you.
First, most ARM's require you
to pay some "points" (money!)
up front that will lower your interest rate for the first two
or three years. This has the effect of lowering your payments
for that period, possibly allowing you to qualify for a larger
loan. Of course, this assumes that you have the ready cash to
pay the points.
Flexibility of the Rate
Second, the interest rate,
over the life of the mortgage, is flexible within certain limits.
It can be raised or lowered to bring it into a fixed relationship
(margin) with one of the established economic barometers (index).
The advantage of this is that if payments go up later, it is assumed
that you'll probably be making more money then and can handle it.
On the other hand, if the payments go down, so much the better!
Other Features Of The Adjustable Rate Mortgage
of the subjects and concepts you should know about, and some of
the factors you should compare when shopping for an ARM are:
|1. Fixed and ARM Annual Percentage
|2. Adjustment Period
|3. Index Used and Current Rate
|5. Initial Payment Without Discount
|6. Initial Payment With Discount
|7. How Long Will Discount Last?
|8. Interest Rate Caps: Periodic? Overall?
|9. Payment Caps
|10. Negative Amortization
|11. Convertibility or Prepayment Privilege
Fees or Charges
Your mortgage broker can explain all of the above and how each
affects your Adjustable Rate Mortgage. Here's more from a good
site on the Internet.
A Combination Or Roll-Over Loan
If you are dealing
with a commercial lending institution (bank, savings & loan,
etc.) rather than a private source of funds, you should try to
arrange for a roll-over loan. Under this
type of financing, your construction loan will simply become your
permanent loan when construction is concluded. The terms may vary
slightly under the permanent loan, but there will not be a separate
closing (with its associated costs to you). Herein lies the big
advantage of this type of financing.
Phew! That's a lot of information for one
page. We need to cover the construction loan - especially from
the perspective of the owner builder. And there's a good bit
to go over in this part of home building loans. So I think we'll
break off here and get into the construction loan on its own
page. Click here to go directly to Construction
For additional information on funding your project,
see Lesson Twelve of our online course
Successful Home Contracting.
to the Home Building Answers' Home Page
from Home Building Loans
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