Mortgages and LoansImportant things to know before taking out finance to acquire land or build your dream home
One of the most fulfilling achievements in life is owning a house. We all dream of building a home but the process requires a lot of saving and investment to undertake leaving most of us stranded or this dream more of a fantasy than a reality. There are now quicker options of realizing this dream in form of loans and mortgages however; before diving into debt, here are some important things you should know.
The false assumption is always that land is a safe investment, however lenders treat land loans as risky, so the approval process can be more cumbersome than standard personal loans. The ease and cost of borrowing will depend on the need.
Are you acquiring land with hope of developing it in the future? For the most part, land loans are relatively short-term loans, lasting two to five years before a complete payment is due. However, longer term loans exist (or you can convert to a longer-term loan), especially if you’re building a residential home.
Are you buying land to build in phases? Lenders are most willing to lend when you’ve got a plan to develop the land i.e. construct. Holding idle land is speculative. Building is also risky, but banks are more comfortable if you’re going to add value to the land.
- Construction loans: You can use a single loan to buy the land and fund construction yourself. This allows you to suffer through less paperwork and fewer closing costs. What’s more, you can secure funding for the entire project (including completion of the structure)
- Building plans: To get approved for a construction loan, you’ll need to submit professional building plans to your lender, who will want to verify that an experienced builder is doing the work. Funds are distributed as the project progresses in phases, so your contractors will need to follow through if they expect to get paid.
- Loan features: Construction loans are short term in nature often using interest-only payments and lasting less than a year hoping the project is completed by then. Thereafter, the loan may be converted into a standard long-term loan e.g. 15- or 30-year loan or your newly built structure will refinance the loan as collateral.
- Down payment: To borrow for the land and construction costs, you shall need to make a down payment. Plan to come up with 10 to 20 percent of the future value of the home.
Are you buying a prime or vacant land? If you are buying land which already has utilities and street access, you shall have an easier time getting your loan approved.
- Vacant land: Bare land can still be financed though lenders are more hesitant unless that’s a prime location e.g. some areas rely on propane, wells, and septic systems. It’s very costly to connect sewer lines and electricity to the land thus there are obvious risk of running into unplanned for expenses and delays.
- Down payment: When buying land in a prime location e.g. near the city centre, you might be able to put down as little as 10 or 20%. For raw land, plan on a minimum of 30% down, and you may have to bring 50% to the table before approval.
- Loan features: Prime land is less risky for lenders thus more likely to offer quicker construction loans that convert to long-term i.e. 30-year mortgages after construction is completed. With prime land, banks tend to keep loan terms shorter e.g. 5-10 years.
- Reducing lender risk: Buying vacant land doesn’t necessarily mean getting a bad loan. You can always improve your chances of getting a much better deal if you help the lender manage associated risks. It may be possible to get longer term loans, lower interest rates, and a smaller down payment requirement.