When do We Apply for a Construction Loan for a Custom Modern Home?
You are wondering how much and when you have to provide cash for your custom modern home. What doesn’t a construction loan cover?
“At what point can we apply for financing? What are our out-of-pocket expenses?”
In short - you would apply for a construction loan only after the entire design process is done. To do so you have to provide both a set of construction drawings and a builder's estimate to the lending institution of your choice.
In general you could say that your out-of-pocket expenses most likely will cover:
the purchase of a property
design fees
and even a downpayment to the builder
Beyond that, all lenders ask for a down-payment, a cash contribution by you. We have seen everything from 5% to 25% of the cost of construction. Once you apply for a loan, the bank involves an independent appraiser, who determines how much the loan amount should be.
Let's say they ask for a 15% down-payment on a $1,000,000 loan amount. Your out-of-pocket expense would be $150,000. The lending institution adds the remaining $850,000 to provide the full $1,000,000 for the construction of your home.
Luckily, some lenders offer packages that count the funds you spent on land and design services as a down-payment. In other words, after you have spent cash on the purchase of the land and the design of your home you might, in the right circumstances, cover the rest solely by the amount provided by the bank.
Of course, in this example, the task becomes to create a home that is valued at a million dollar, but only requires $850,000 to build.
As you can surmise, if you are planning to cover the entire construction with a loan, all the pieces have to be in the right place. It takes a bit of finicky math, good planning, and a pinch of luck to have the cost of land, the cost of design, and the cost of construction add up to no more than the appraiser’s assessment.
In addition, appraisers and banks have their own opinion about what they should value and it will very likely differ from your own desires. The more you can add to the entire project out of pocket, the more freely you get to play.
Of course, there are other means of lending than a construction loan to cover your upfront cash advances, such as an equity line on your current home, a lot loan, credit cards, and grand-aunt Ethel.
Additionally, it would be advisable to start with the process of getting a construction loan at the very beginning. It allows you to settle with the right financial institution and fill out their paperwork. If you start the process early, you will have a better understanding on a) how much a bank is willing to lend based on your financial health and b) what their parameters are. Every financial institution offers different terms.
While we are certainly not lenders, we will help you lay it all out in a way that would make sense for you.
~ Toby