The advantage of financing major renovations with a construction loan, rather than a personal loan or home equity line of credit, is that you'll generally pay a lower interest rate and have a longer repayment period. Construction loans offer more flexibility in terms of loan terms compared to traditional loans. You can set loan terms based on the needs of your project. A home construction loan is a short-term loan with higher interest rates that provides the funds needed to build a residential property.
Construction loans are inherently riskier than conventional loans, meaning there are higher profit margins. If you opt for the USDA pilot program or originate 203,000 loans and can immediately securitize them, the margin you can get can be 5 or 6 points. Construction loans with cash help close in a short period of time, compared to a conventional bank that could take 60 days to close. These loans are best suited for builders who already have a defined construction plan and schedule.
Many financial organizations can benefit from offering a construction loan program, especially when it comes to hiring. The funds from these construction loans are disbursed based on the percentage of the project completed, and the borrower is only responsible for paying interest on the money extracted. Whether your project involves building your home from scratch or renovating an existing structure, construction loans have certain features that set them apart from your traditional mortgage. Loans for homeowners and builders are permanent or construction-only construction loans in which the borrower also acts as a homebuilder.
Financial organizations are taking advantage of a gold mine of opportunities to provide construction loans to new builders. An exclusive construction loan provides the funds needed to complete the construction of the home, but the borrower is responsible for repaying the loan in full at maturity (usually one year or less) or obtaining a mortgage to ensure permanent funding. While you're building your home, you can only pay the interest on your loan, giving you a lower monthly obligation and more time to save. With a home construction loan, the lender doesn't have that option, so they tend to view these loans as major risks.
For example, if the prime rate is 4.5% and the lender decides that the rate on your construction loan should be preferential plus 2%, you'll get an interest rate of 6.5%. While your home is being built, you'll only pay interest on the construction portion of the loan for up to 18 months. As with any construction or home loan, a single-closing loan has associated costs that you'll need to pay upfront. As mentioned earlier, this type of loan will provide you with the money a builder needs to build your home and gives you the time you need to pay it back.
Construction loans usually have variable interest rates, and lenders add a certain percentage to the preferred rate or the rate they give to their best customers. That would normally involve taking out a loan to cover the purchase of the land and construction costs, and a second loan for the mortgage of the finished residence.