The process of acquiring land, financing the construction and obtaining a permanent loan is cumbersome, costly, and requires a large investment in the project.
A new type of loan that helps buyers acquire land and finance the construction with a small investment has emerged. It is called a one-time close loan and it essentially allows you to buy the land and finance the construction of your future home with 30-year-fixed financing and a low down payment at the time the purchase of the land closes.
The traditional process for buying a lot and financing the construction of a home starts with the buyer identifying the lot they would like to build on. Most buyers pay cash for the land. However, local banks will usually finance the lot purchase with 25 percent down.
The next step involves having the home designed, getting various permits, having the plans finalized and securing a construction loan from a local bank. The bank will typically lend 75 percent of the home and property’s appraised value when completed. The value of the land normally represents 25 percent of the value off the completed project; so if the owner owns the lot free and clear, it should represent their 25 percent equity of the completed value. If you financed the purchase of the lot, you would have to pay off that lot acquisition loan in order to get the construction loan.
The interest rate on the construction loan floats above the prime rate – there are no payments while the home is being constructed. The interest accumulates and is paid when the construction is completed. The bank pays the contractors as the project meets predetermined milestones, such as when the foundation is completed or the home is framed. Once the home is completed, the owner needs to obtain a permanent loan, such as a 30-year-fixed, to pay off the construction loan. The big disadvantages of the traditional process are dealing with two application processes, two sets of fees and needing 25 percent of the property’s completed value.
The one-time close loan eliminates the construction loan. You start and finish the financing with your permanent loan. As with the traditional process, the first step involves identifying the lot that you would like to buy and build on and negotiating a contract for the purchase. The next step involves having your home designed, plans completed, and obtaining bids for the construction and infrastructure during the contract escrow period. The one-time close lender will process your loan with a property value that is the sum of the land cost and the construction costs. As an example, if the land costs $100,000 and the total constructions costs are $300,000, the value for lending purpose would be $400,000. Your down payment would be as little as 5 percent ($20,000) for a conventional loan, 3.5 percent ($14,000) for a FHA loan, or 0% ($0) for a VA loan. The lender would pay the balance due to the seller of the land at closing, $80,000 for conventional, 86,000 for FHA, or $100,000 for VA. The remaining $300,000 would be held by the lender and paid to the contractors when certain construction milestones are completed. You have 9 months to complete the construction; your payments begin when the home is completed.
The big advantages of a one-time close loan are the elimination of the construction loan, only applying for financing once, being able to buy and build with a small down-payment, and locking in your permanent rate at the time you purchase the lot.
Steve Setka is an exclusive buyer’s agent with Keller Williams Realty in Durango and a licensed mortgage originator. He can be reached at 903-7782 or Steve@DurangoRE.net.