Custom Home Building 101: How to Build a Custom Home
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Expect your lender to finance only 75% to 80% of your home’s eventual value. To get financing for your dream home project, you’ll need to work with a qualified builder or general contractor. Lenders also require lien waivers proving builders have paid their subcontractors before issuing draws.
The pre-approval process helps form a maximum budget for the building project. The builder’s construction plans should include floor plans, ceiling heights, timetables — everything it will take to create your dream home. Experienced builders will likely already know about your lender’s requirements.
When Does It Make Sense to Use a Construction Loan?
You should never have all your financial eggs in one basket. Good comments, Renovator8 and mountaineergirl, thank you. The house designer who designed my current home 20 years ago designed this one as well.
However, building a modest custom home in a low-cost area might drop costs as low as $100 a square foot, or $350,000 for 3,500 square feet. I have only talked to our current mortgage lender so far. That bank offers a construction to permanent 3/1 ARM at 4.375% plus about $4500 in closing costs.
How is a construction loan different than a regular mortgage?
Purchasing a home is usually faster than building one, and you’ll typically have lower hurdles to clear for things like down payment and credit score. With a new home construction, the process can be complicated. There’s not just a mortgage to consider, but also financing for the land, labor, and materials. Ever heard of someone buying a house only to learn their big remodel dreams aren’t possible? The competitive real estate market can add pressure to buying a home before you have the full picture. An architect can help you understand the potential of a house before you even make an offer.
Talk to your family and a financial advisor on what you can realistically pay at this time. Sure, there were a few bumps along the way, but you’ll have that with a new build, regardless of the company you choose. What consummated our decision to go with this company was the fact that they never pressured us to sign a contract. Being able to use local vendors and suppliers whenever possible was something we greatly appreciated. Thank you so much for your dedication to our project, our family, and all that you have done for us.
Locate the right lot
Your builder may require a letter of credit just to make sure that he gets paid. Be sure to upgrade your title insurance policy to the full value of the house after it is completed it you own the lot and the title policy is just for the value of the lot. They are predicting a correction in the stock market, so this is a great time to move some of your investment from stock to your own home. We're looking at a third option, not sure it would work for either of you. Starting our retirement house with savings, then funding phase 2 work using some credit we have in existing home equity lines. The final stage will require finishing it with refi of city house, which is almost paid off, then selling city house in a few years, paying off loan, having no mortgage.
I smiled when you said no one comes home to find that 10% of their house has disappeared. Ten years ago, my home caught fire due to an electrical short. I lost more than 10% of my home and if I hadn't had adequate insurance, I would not have been able to rebuild. This many years later, I can smile about it but it was a tough learning experience.
Monitoring the building process
So, if the appraised value is $200K, the bank will lend you $160K. If your house is only going to cost $190K, then that leaves you with $30K to come up with in cash. Building a custom home is a complicated process, and it can take well over a year depending on your location, lot complications, house size, laws and the permit-approval process. Another option is to buy a home that has already been renovated — you get a fresh and updated feel without having to do the work yourself. Your foundation will be made of poured concrete reinforced with steel rods. Depending on the part of the country you’re building in and the design of your home, you may have a slab foundation, crawl space or a full basement.
Go in with the mindset that you’ll limit nearly all change orders and you’ll stick to the budget or just factor in an extra 10% or 100k because you’ll likely use it. When the home is finished, apply for the mortgage…don’t forget you still have that cash. Mortgage rates are still way lower than market returns on investments. Financially, it makes no sense at all to do anything but a loan for the max amount that they will give you and let any funding remain in the higher return investments.
One way to split the difference between buying and building is rehabbing. That is, you buy a house with a lot and foundation, and finance your renovations right into the purchase. You control the out-of-pocket costs for building a house by creating an affordable budget. When you’re buying an existing home, it’s possible to finance up to 100% of the home’s value depending on your loan program. As with any expensive contract, don’t sign off on anything you don’t understand.
When looking at different styles, also consider if they fit your climate/location/neighborhood. Collect pictures of things you like (and don’t like). You can also collect clippings from magazines such as Homes & Gardens and Architectural Digest. Look into home values in the surrounding neighborhood. You may not want to build a $2 million house in a much less expensive area. And your home’s location will affect what you want to and can do with the house, structurally and aesthetically.
Buying a new car or going on a shopping spree and maxing out credit cards is a bad idea while the construction loan is in place. About30% of an overall credit scoreis based on a borrower’s total debt. Lenders base the loan on the credit report retrieved during the application process. The bank sends a representative to the construction site or builder’s office with fund disbursals. It’s important for the bank to see that builders are sticking to the timeline. They also need proof that the money is being used appropriately.
In addition, existing homes are often in established residential neighborhoods. Typically, that means they’ll have mature trees and landscaping that adds substantial home value. Once you know what you can spend, work with a reputable builder who knows the area and who can tell you what you can and can’t afford to include in your new house. This leaves a 20% to 25% down payment requirement for you, the borrower. Or, just search for your prospective contractor’s name, location, and the word “license” to get this information. The amount of time varies with the complexity of the job, the skill of the builder, and outside forces like the weather.
What structural features do you want in each room?
Construction loans are not easy to get because at the beginning of the loan there is no house to use as equity. But with substantial cash, you will present as a better customer. I didn't hire a builder but contracted directly with the trades (owner-builder/GC).
And we'd have to pay for storage since we would choose a small rental for just the two of us. I have a friend who started on the house by having the basement dug and THEN went to the bank for a construction loan. The bank wouldn't loan her money on a house that had already started.
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