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Construction Loans vs. Conventional Loans

By Tailored by Woodhill - 11-8-2022

One of the first steps to building your dream home, is securing a mortgage. However, loans for a new construction build differ from those used to purchase an existing residence. Below we’ll explain some of the ways a construction loan and a conventional loan differ.

Down Payment

Because of the higher risk involved for mortgage companies or banks with construction loans, they usually require a standard down payment of 20%. If a lender does offer a lesser down payment, then that typically translates into a higher interest rate. But don’t panic, if you have equity in your land that can be used as part or all the down payment if you already own it.

Short-Term

Construction loans are short-term and used to cover the cost of construction, permits, site-development and to purchase the land if you do not already own it. You’ll have two ways of securing the funds for a new home built on your land. You can apply for a construction only loan or you can apply for a construction-to-permanent loan which will convert into a permanent mortgage. If the interest rates increase during the time it takes to build your home and you chose the construction-to-permanent loan, you don’t have to worry. You’ll be locked into the interest rate at the time of signing and you’ll only have to pay a one-time closing cost. On the other hand, if you chose to do a construction loan only, you might have a higher interest rate by the time you secure your permanent mortgage, and you’ll have to pay a second closing cost. However, you could always come out ahead if the interest rates drop during the build cycle or you’re planning on paying off the entire cost of construction after the home is built.

Draws

When you purchase a home with a conventional loan, the lender pays the full sum to the seller. With a construction loan, the lender pays the home builder the cost of construction in what are called “draws”. When a percentage of the home is completed, the home builder will request a draw from the loan to cover the cost of what has been constructed up until that point. Lenders require inspections to ensure the work has been completed before dispersing the funds.

We here at Tailored by Woodhill Homes will help guide you along the homebuilding process starting with the financing of your new home. We have preferred lenders to choose from or bring your own. If you’re ready to schedule an appointment to get started building your dream home, click here.