Just like any product, construction loans have their good, bad, and ugly. Here is some information to assist you in keeping away from the bad and the ugly ones…...
Know your options. In today’s market, the options for construction financing have been greatly reduced from years past. Today's construction loan choices include some banks that will offer a construction loan and construction finance companies that are independent. Some of your options will depend if you have selected a builder or if you will be spear-heading the build yourself and hiring your own subcontractors.
Get pre-approved for a loan. This will help to determine if the requested loan amount is within your budget. It will also allow you to find out what the monthly land or mortgage payment is going to be, and to make sure you qualify before you run out and buy land. This pre-approval will be required by the lender whether you or the builder is financing the building costs. Anyone willing to grant you the construction financing is going to want to be absolutely certain the house will be financed into one of the traditional choices of permanent financing options once it is complete. Neither the builder nor the lender wants the house at completion!
Realize that construction loans are most often loans that will need explaining. The lender will want to know exactly what it is you are trying to accomplish. They will want the costs, plans, and any ideas you might bring to the table and how you intend to accomplish it then they can recommend a program and approve your loan.
Factor in contingency funds into the cost of building your new home. Contingency funds are added to the loan amount just in case you need more money to build your new home. With all good intentions, construction loans tend to have cost overruns. Typically, 5% to 10% of the cost breakdown is added to the loan amount just in case you have cost over runs or need better appliances. If you don’t need or use this extra contingency fund then it will not be added to your mortgage upon completion of your new home.
Make sure the construction lender is experienced. Local banks, if they do construction loans, might be able to offer you a great rate. National Lenders are more likely to have construction programs, but the drawback is that they do not necessarily have their fingers on the pulse of the local Real Estate market. But your first consideration should be construction lending experience. Even more than a mortgage loan, a construction loan can be complicated. Avoid using any entity that provides you with a loan officer who doesn't have significant experience providing construction loans to consumers. Simply asking ‘how long have you been doing construction loans?’ is a good start.
Enter into a written contract with a builder/contractor (if you aren’t acting as your own General Contractor). Items typically required of a builder are their financials, both personal and entity, prior years taxes, building license, good standing with the Secretary of State, Liability Insurance information and some others. A cost statement breaking down each line item of the build will be a must. A construction contract is a written agreement between the borrower and the builder for services to be provided by the builder for a stated consideration. A properly written and customary contract contains:
A clear statement outlining the responsibilities each party will perform.
The date of the contract, the scheduled dates for commencement and completion of construction of the project.
The amount of payment the builder is to receive for each stage of construction, as well as under what conditions it will be received, such as passing inspection etc. If the property is located in a state that charges sales tax, the contract must specify whether the amount includes state sales tax.
A completed and signed line item cost breakdown and list of materials.
A payment method that is compatible with the line item cost breakdown and the disbursement procedures of the lender.
Provisions for possible changes to plans or specifications by appropriate change orders. Since most construction loans have a contingency provision a cost over run may be paid for using that provision.
Full identification of all parties and definition of all names used in the contract (contractor, owner, subcontractors and architect).
Architect's responsibility, if any.
Signatures of the borrower and contractor.
Get construction insurance. Banks will require two types of insurance, builder’s risk and general liability. This requirement is set forth by the bank, not the builder. So make sure you hire a reputable builder with insurance, it will help your construction loan close much faster and smoother.
Builder’s Risk: This policy is an all risk policy to include, fire, extended coverage, builder's risk, replacement cost, vandalism and malicious mischief insurance coverage.
General Liability Insurance: You or your builder can provide this policy. This policy is a comprehensive general policy or a broad form liability endorsement. The minimum amount of $300,000 for each occurrence is required. If the builder provides the insurance a general policy of $1,000,000 or a broad form liability endorsement is required. Ask your builder upfront if they have general liability insurance. If they do not, ask if they have a problem providing the insurance. Some builders cannot afford or simply do not want to pay for the insurance and then guess who has to provide it, yes, you do. You can save yourself a lot of headaches and money if you work with a builder that has insurance.
As you can see, building a house has a few steps to consider. If you would like assistance with building your own home, have a builder build your home, or already have a builder in mind, give us a call. We can help with construction financing options. Our number is 763-784-3400 and speak with one of our loan officers or preview our website at www.contractorscapital.com for more information.
