An Introduction to Construction Loans
Construction loans are popular in the real estate industry, given how they are used to revamp properties. Construction loans (also referred to as hard money loans) are great for financing rehabilitation and restoration projects. While some people utilize them to build their dream homes, others consider them as flip loans to restore old homes that can fetch a better market price.
People often confuse construction loans with commercial mortgage loans. Both are different things and work differently from each other. While commercial mortgage loans are applicable for existing buildings, houses, and property, construction loans are acquired to revamp or build houses.
Getting construction loans is not as easy as it sounds. But fret not. We have written this little guide to getting construction loans easily.
The Process of Acquiring Construction Loans
It all begins with finding a reliable hard money lender. While there is a plethora of financial institutions as well as private and commercial lenders who offer financial assistance, you don’t need them. What you do need is a lender who offers construction loans with maximum cost coverage. These costs include land, permits, fees, plans, labor, materials, and closing costs. Otherwise, these costs will have to be paid later on.
Then comes the approval process. The lender asks for your bank statements, proposed down payment plan, as well as your credit score and credit history. The information is used to evaluate your credibility and validate whether you will be able to repay the construction loan or not. You are also required to submit details of your contractor and previous projects. Also, you will have to share the plans and blueprints for your house.
The lenders meticulously review the plan to see if it is practical and realistic. If your application gets past the review process, you are granted the desired construction loan to initiate the construction process.
Types of Construction Loans
Construction loans are broadly categorized into three types. These loans differ in complexity, depending on the nature of your construction project.
We have construction-to-permanent loans (also called single-close construction loans) that people can acquire with a simple construction plan. The interest rates on this loan are decided before the construction process.
Construction-only loans (also known as ‘two-close’ construction loans) come with a restricted repayment window. To acquire these hard money loans, the borrower must qualify, get approval, and pay closing costs multiple times. These loans are best suited for people with large cash reserves.
Last but not least, we have renovation construction loans. These loans are helpful for people who want to revamp their existing property. The amount of the loan is considered after taking the value of the property into account. The mortgage covers the cost of significant renovations instead of being financed after closing.
Requirements of Construction Loans
Finding an experienced builder is the most important requirement for getting a construction loan. A builder with a rich portfolio of successful projects is more likely to get you a loan immediately.
Additionally, a blue book that includes blueprints, floor plans, cost projections, construction schedule, list of raw materials, suppliers, and subcontractors will also help you get the construction loan.
For construction loans, you will need to pay a down payment. Hard money loans require a higher down payment as there are no existing collaterals involved. Paying a 20% down payment is the standard rate for traditional construction loans. In some cases, this amount could be as high as 25%. Many hard money lenders ask for at least three years of tax returns and proof of income to assess your credibility and check whether you will be able to repay the loan.