Understanding home construction loans, how they work, and how to get them is very integral to building a home today. It would be very nice, and save you a lot of money in interest if you did not need a loan, but with today’s home prices that isn’t a very likely scenario for most people.
Getting a loan can be easy if you are prepared and almost impossible if you are not. That is why prospective home owners need to start saving, and paying off debts long before they are ready to go to the bank to get a loan. Here is a checklist to insure that you can get a construction loan and a mortgage loan.
• If you have been through a bankruptcy or foreclosure you must wait two years before applying for another loan. You will probably want to consider a FHA loan.
• You must have held your current job for at least one year, and if you are self employed you must bring two years W-2s with you when you go to apply for a loan. Your income must be sufficient so that you could make payments equal to one third of your income.
• Your records must indicate that you have had enough income to make payments on the loan requested, for the past one year for employees and two years for the self employed.
• Pay off your car payment and any other small loans before applying for any sort of home loan, mortgage or construction loan.
• Call Doctor’s offices and hospitals you may have outstanding debts to, and pay those off. Any unpaid bills, no matter how small should be paid off well before you apply for a loan.
• Keep your credit cards paid off, and pay on time each month so that you do not carry a balance or pay interest.
• Pay off all debts and do not take on new ones while preparing to apply for a loan or during the loan application process.
Any homebuilder, contractor, loan officer or realtor can prequalify you for a loan. Prequalifying basically amounts to going through your finances quickly and estimating how much you could afford to pay in payments each month. The general formula is that your monthly payment should be one third of your monthly income, minus your other monthly debts. That’s why it is best to pay off your car payments and other debts before prequalifying.
• In order to finance your home you will need two loans; a construction loan and a mortgage.
• You may apply for both loans at once, and close them at the same time to save on closing costs and insure you have both loans before you start.
• A construction loan usually requires thirty percent down, and it cannot come from a gift. Your investment means that you personally have a vested interest in completing the house.
• The construction loan money is placed in an escrow account, and only the builder can touch it.
• The builder will have to write out a plan to describe how many withdrawals he will make and when.
• Even though it is your money, unless you are acting as your own general contractor, you cannot withdraw money from the construction loan escrow. This could require some special planning if you are having a shell built, and plan to complete the home using the remainder of the home loan. Special arrangements can be made but this point needs to be clarified.
• Once withdrawals have been made on the escrow account, you will owe interest on the money that has been spent. You only pay interest on money that has left the escrow account, not the amount still held in escrow. This interest can be paid during the construction loan, or simply added to the balance of your loan.
• Once construction is complete or one year has passed since its inception, the construction loan is expired.
• Any money still in the escrow account after completion is returned to the bank, and that balance is subtracted from your debt. You only pay for money used.
• The construction is a type of balloon note, which means it is all due at one time. All the money which was spent during the construction is due on completion or after the term of one year is passed.
• A construction loan does not include any means of repaying the principle other than a lump sum payoff.
• Because you will have to pay off the construction loan all at once, you will need a mortgage loan, unless you plan to have the full amount ready from some other source.
• The mortgage loan is a plan of repayment designed to divide both the principle and interest into equal payments spread out over either 15 or thirty years.
• In the beginning of the mortgage loan you will pay very little towards the principle on each payment, and the majority of the money you pay will be interest.
• In order to pay down the principle faster, you may choose to make extra payments.
• Any extra payments go towards the principle, and can take years off your loan.
• A 15 year loan also pays off the principle much faster.
• 15 year loans also carry a lower interest rate, and the payment is often only a little higher than the 30 year loan.
• On average you will save over 100K over the course of your loan with a 15 year loan, so be sure to consider getting a 15 year loan rather than a 30 year.
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