April 24, 2024
    What are the different types of construction loans and which is right for financing your dream home? We explain the key considerations in this guide.

    Financing Your Dream Home: Construction Loans Explained

    Did you know that Americans build over 1.5 million new houses every year?

    If you’re dreaming of a new home build, you may worry about getting the financing you need for the project. A mortgage is straightforward enough, but what help is available for building a house from the ground up?

    Introducing home construction loans: They’re like a mortgage, with a twist. 

    What are the different types of construction loans, and how do they work? Keep reading to find out!

    What Are Home Construction Loans?

    Construction loans are similar to mortgages, but with shorter terms and higher interest rates. Rather than paying the lender, borrowers use the loan to pay the contractor who will construct their home.

    As each new building milestone is complete, the borrower pays another installment to the contractor. When the house is complete, the borrower can pay off the remaining loan amount in full or convert it to a permanent mortgage.

    Different Types of Construction Loans

    It sounds easy enough in theory, but how do construction loans work in real life? Here are three common options to choose from.

    1. Construction-Only Loans

    Also called “two close” construction loans, these offer the borrower only the funds they need to build their home. Once construction is complete, the borrower seeks another, separate loan to refinance into a mortgage.

    This process requires two different loan applications, two different closings, and two different sets of paperwork. It may be ideal if you have large cash reserves or you want the freedom to shop around for the best mortgage options.

    2. Construction-to-Permanent Loans

    For borrowers that want a simplified loan process, a construction-to-permanent loan might be the best option. All financing is rolled into one transaction, one loan application, and one closing.

    This type of loan is ideal if you have a straightforward building plan and don’t want to worry about fluctuating interest rates or mortgage costs. However, it is more limiting because you’re locked into the terms and rates offered by the lender.

    If this sounds like the best option for you here’s everything you need to know about this popular type of loan.

    3. Home Renovation Loans

    What if you found a fixer-upper with amazing potential and you want to start a huge renovation project? You can apply for a loan that includes the renovation costs in the mortgage.

    Popular choices for these types of construction loans include:

    • Federally-backed FHA 203(k) Loan
    • Fannie Mae’s HomeStyle Renovation Mortgage
    • Freddie Mac’s CHOICERenovatio Mortgage

    Bonus: You don’t have to buy a fixer-upper to take advantage of a renovation loan. These loans are also available to help you fix up the home you’re currently living in.

    Financing a New Home Construction

    When you’re facing a new home build or a major remodel, you might wonder where you’ll come up with the money for the project.

    No worries! With so many different types of construction loans available, you can get the financing you need to turn your dream home into a reality.

    Now that you know more about home construction loans, what’s next? Our site has great advice for current and future homeowners, so stick around and continue browsing!


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