When this whole plan started to hatch, I did my due diligence on the phone and bombarded lenders with a barrage of questions. The first two were usually, “Do you offer lot loans,” and “do you offer construction loans.” Since the fallout on Wall Street, most banks are gingerly tiptoeing around and offering much less than they did; few were offering either of these ‘products’. (In contrast, when we bought our last house, lenders were trying to throw in a Home Equity Line of Credit to borrow against on TOP of the mortgage. We didn’t want or need it!)
When I asked about lot loans many lenders wanted to know if I had a design yet. While it’s normal in tract development to pick a plan from a book and plop it on any lot, architects prefer to design a building that factors in the specific conditions of a site: seasonal sun angles, adjacent buildings, traffic patterns, best views, etc. So we wanted to purchase a lot BEFORE we designed a house for that lot. If we took the time to design for a lot before buying it, there’s little chance it would still be on the market when we were ready. It’s apparent that typical financing favors development with less thought.
If you have to borrow for a vacant lot like us, there are three loans: The first is the lot loan. Then there’s the Construction loan. Then there is the permanent Mortgage loan. (Some lenders offer a construction loan that converts into a permanent mortgage at the end of construction, with the advantage of only one application and closing, but sometimes higher rates.)
The Construction loan is the least familiar to most.
In a residential construction loan, a lender typically assesses the design to determine value and how much they’ll loan. (Sometimes, this isn’t the full cost of construction, like in the story of this super-insulated ‘green’ house.) You make interest-only payments (interest rates are typically variable) on the loan during construction, but the money is released to you in stages or draws.
In our case, the first draw will pay off the lot loan and provide enough to get started. Most lenders will monitor construction to confirm their investment is in good shape. If you request a draw for framing, and they show up and see that the foundation isn’t in place (supposedly funded by the previous draw), you’re in deep doo doo.
Each previous loan will roll into the next. The construction loan will pay off the lot, and the permanent mortgage will pay off the construction loan. So far, we’ve only dealt with the 1st loan of 3 and will look for our next loan once our design is finalized.