Insights

Your guide to home construction loans: What to know and how it works

Written by Minnwest Bank | Apr 4, 2022 11:00:00 AM

Construction loans offer short-term financing that covers the costs of building your new home. While there are different types of construction loans, the construction-to-permanent loan is streamlined and convenient for borrowers. In the following, we’ll give you the construction loans 101 so you can prepare to build the house of your dreams.

What’s a construction-to-permanent loan?

  • A construction-to-permanent loan is a financing package that converts to a traditional mortgage upon project completion.
  • As with any other construction, as the builder makes progress, the lender makes payments to cover the costs of the house.
  • In the meantime, you’ll make interest-only payments to the lender until construction is complete, and the loan converts to a traditional mortgage.

Benefits of a construction-to-permanent loan

A construction-to-permanent loan has several benefits to the borrower.

One closing date, one set of fees

An advantage of the construction-to-permanent loan is simplicity and convenience. Under a traditional construction-only loan, you’d end up applying for financing twice: once before building begins, and then again to secure a mortgage to pay off the construction debt.

However, with a construction-to-permanent loan package, you have just one closing date to worry about — not to mention one set of closing costs. And frankly, that’s pretty nice. And you can feel good knowing your mortgage is settled and ready to activate.

Locked interest rates

Having the ability to pay interest only while the house is being built helps make new construction financially feasible for many. But one advantage in the streamlined construction-to-permanent loan is the fixed interest rate. Traditional construction-only loans have variable interest that is tied to the prime rate. Having the construction-to-permanent loan makes it far easier to plan your expenses. (In a time when you may need extra capital for the house, this is a bonus.)

Construction loan timeline

As your dream house takes shape, here’s a quick outline on how construction loans work.

Before construction

  • Contract with the builder (blueprints, detailed plans, budget)
  • Apply to a lender for a construction loan (Tip: Seek preapproval)

During construction

  • Borrower’s down payment goes to the builder
  • Then lender pays the builder in stages as different phases get completed
  • The borrower makes interest-only payments to the lender

After construction

  • Lender converts construction loan to a traditional mortgage
  • Borrower begins paying monthly installments (principal and interest)

Tips on preparing for a construction loan

Work with a reputable contractor

Confirm that your builder is licensed, bonded and experienced. Before making a final choice, meet with multiple builders, look at examples of their past projects and check their testimonies and credentials. You’ll want every assurance your builder performs high-quality work on a reasonable timeline.

Seek pre-approval

Before you choose your final model and sign the contract, get pre-approved. (Even if it's not required, it will show the builder you have serious intentions.) Aim for 60-90 days before your ideal closing date for the construction loan. This will help you finalize just how much home you can afford. Before you visit, run our calculator to get a ballpark.

Visit here for tips on getting your financial house in order before applying for a mortgage.

Gather your documents

Compared to the mortgage lending process, a construction loan often requires a deeper level of detail. Your lender will provide a list, but here are some things you can expect.

  • Blueprints of the home along with details about the lot
  • A detailed budget that breaks down the costs
  • A detailed timeline that outlines each phase of construction and expected completion dates
  • 2 years' taxes and W-2’s
  • 2 recent paystubs
  • 2 months' statements for funds available for the construction costs
  • Plan to cover any overages throughout the process

Minnwest Bank: Your trusted experts and lenders

Minnwest Bank is there to help you achieve your dreams. Our community banking approach is designed to make construction loans easier and more streamlined for borrowers like you.

  • Our helpful bankers take time to educate you and answer all your questions, so you can feel confident in the process.
  • We offer one-and-done construction-to-permanent loans for expediency and convenience. Just one closing day and one set of fees to worry about!
  • You'll always work with the same lender from start to finish. All servicing and processing stay in the same location.
  • As a community bank, we offer flexible terms and customized loan packages at highly competitive rates. With our level of service, you get tremendous value.

Learn more about our mortgage program and reach out to a mortgage banker in your community today. All applications are subject to credit approval.