Whether you have your own design or want to visit a premier construction show, planning to have your own home gives the thrills. But can you get a loan to build a house? Yes, you can. Construction loans are short-term loans with a high-interest rate and are issued to fund the construction of residential properties. Learning how do home construction loans work can make it easy for you to have your personal construction loan approved just in case you’ll need to file one. 

Construction Loans Vs. Mortgage Loans

Variable rates of construction loans can fluctuate along with the prime rates, and the rates in general are higher compared to that of mortgage loans. Mortgage loans usually use your house as the collateral, and failure to pay the loan can allow the bank to seize your property. So if you’re tight on budget and just want to build an extension of your house, you might want to consider just reorganizing your garage.

How does a construction loan work? For home construction loans, the option to use your house as collateral isn’t available so loan rates are higher to cover the high risk. Aside from being used for building homes, construction loans can help with purchasing a new HVAC unit or a complete cooling and heating system install.

How Do Construction Loans Work?

How Do New Construction Loans Work?
Home Construction Loans – How Do New Construction Loans Work?

Filing for home construction loans is a complicated process. Knowing how does a construction loan work means understanding that the loan depends on the project completion. Timeline of construction, budget, and plans that are realistic and detailed need to be relayed to the lender.

After the loan approval, a draw schedule or a bank draft will be issued to you, the borrower. The loan isn’t issued in full as a lump sum but is given in stages depending on the progress of the project. You only have to pay the interest rates within the draw schedule until the property is constructed.

An appraiser sent by the lender visits and inspects the house during the different stages to make sure that the loan is used appropriately for the project. The lender will only issue payments or draws to the contractor if the appraiser approves the completed stage in the project. You may have an option to convert the construction loan to a mortgage loan after the home is completed, but this can depend on the type of loan you availed. The lender may also require you to file for a mortgage loan to return the capital of the construction loan.

How Can You Get a Loan to Build a House?

How Do New Construction Loans Work?
Personal Construction Loan – How Do New Construction Loans Work?

Now that you know how do home construction loans work, what are the steps in getting a personal construction loan? Before the loan application, you should already have planned for the design, timeline, and budget through meetings with an architect and a builder. The contract should’ve been finalized to ensure that the total cost of the project is reflected, and a realistic amount of loan can be established.

All lenders review project specifications and conduct a background check on the borrower’s stability of income as well as their employment history. It helps if you have a stable income and a good credit rating, as well as a low ratio of debt and income. Aside from knowing how do construction loans work, you should also be able to pay at least 20% of the loan as a downpayment to likely get approval.