What Is A New Construction Loan?

To finance the construction of a new project, short-term loans are available for new construction. The permanent loan (or "end financing") will be used to repay the interim loan. The term of a construction loan is six months to one year.

What Is The Cost Of New Construction Loans?

Construction loans are typically paid out using a draw system rather than a lump-sum mortgage loan. After verifying the work on the project, the draw system allows the lender the ability to pay the proceeds at a specific time (usually monthly). In addition, the lender often sends an inspector to verify that the project is complete and determine the correct payout.

The borrower pays no interest, and only the monthly amount is drawn. These funds can be used for subcontractors and materials.

Builders Can Get New Construction Loans

Several types of loans are available for new construction, depending on what purpose they are being used for and who it is being borrowed from. These loans are typically given to general contractors who construct homes for clients (pre-sold houses) or to builders who will sell the home once it is completed (speculative houses). A lender will limit the loan amount on pre-sold properties based on a percentage of the property's purchase price or its value.

Based on the plans and specifications provided by the builder, the appraised value for speculative home loans will usually be limited to a small percentage. The advantage of a speculative loan is that the general contractor will cover all construction costs as well as any interest due to delays. However, spec builders are turning more to private investment over banks lending.

Buyers Can Get New Construction Loans

Individuals who are the owners of their property may be eligible to receive new construction loans. They will need to prove they are contractors or that they have the experience and knowledge required. The loan amount would not exceed 80 percent of the property's value.

The equity can be used if the borrower is the owner of the lot. A construction-to-permanent loan, also known as a C2P, may also be an option for the borrower.

C2Ps typically require two closings. Each one must include two sets of legal documentation. The first one is used to finance new construction and the second for permanent financing following completion.

There are two types of two-closing construction-to-permanent transactions:

• Refinance transactions with limited cash out is possible

• Refinance transaction that involves cash-out.

Two-closing construction-to-permanent mortgages must follow standard limited cash-out and cash-out refinance limits for loan to value (LTV), combined loan-to-value (CLTV), and high combined loan to value (HCLTV) ratios. You must also have been legally entitled to at least six months to qualify for a cash-out refinance transaction.

Some borrowers may qualify to have a one-time close construction-to-permanent transaction. The one-time close is easier than the usual two. This one-time closing allows for one set for closing expenses. It also locks in your interest rate for all duration of the project. This type of construction loan automatically converts to a permanent phase once construction is complete.