In the onset of building a custom home, purchasing a vacant lot and starting construction from scratch can be a tempting opportunity. A vacant lot is like a blank canvass; you have the freedom to design and personalized control of building operations. However, before jumping into this endeavor, one must understand the costs, regulations, and processes surrounding a land investment.
In the initial stages of purchasing land, it is especially important for a buyer to understand the differences between available loans and their coinciding down payments, interest rates, and fees. Here, we will review the three most common construction loan types used for lot purchasing.
A Lot or Land Loan
When acquiring vacant properties, differentiating between raw land and lot land can jumpstart your financing decisions. Raw land refers to empty, undeveloped land. When examining raw land for purchase, it’s essential to ensure the property is suitable for building. Soil, gradient, and zoning restrictions are all critical considerations.
Many buyers fall in love with a piece of property but want to postpone construction. Both land and lot loans are ideal for buyers who wish to secure a property before building, take their time in planning/designing a custom home, or postpone settlement due to job relocation or other concrete personal plans.
Buying raw land comes with higher risks and greater responsibilities. For example, unanticipated challenges, such as soil contamination, are more likely to crop up. When risks increase, so too do the interest rates and fees for the lot loans.
Lot Land Is Generally Cheaper
Purchasing lot land is typically a more affordable approach, as the available property is firmly designated for residential development. Often, the homebuilder or lot retailer has already vetted and appraised the lot land.
While the terms of a lot loan are partially dependent on the lender, many are available with fixed or adjustable interest rates. Lenders will stipulate the monetary limits of a lot loan, requirements for acreage, and qualifications to build upon, and some are willing to transfer lot loans into construction loans when the borrower is prepared to build.
Ideal for buyers who are ready to begin building, construction loans are short-term loans in the sense that money is distributed quickly. The funds are dispersed periodically, which eases the construction process and ensures that your home builders and contractors can be paid and can acquire the necessary materials.
Construction loans come with other benefits as well. Because the down-payment is smaller in comparison to a lot loan, if you are waiting to sell a home or short on upfront cash, this type of loan can be advantageous. Fees and interest rates are also more flexible in that you also only have to pay for what is borrowed and drawn. When the home is built, you can also convert the loan to a fixed loan, or use a construction loan to purchase land.
There are drawbacks, however. Most importantly, there is a lot more paperwork. You will also be expected to present a lot of detail and planning for your home building project upfront. However, if you already own land, you may be able to use that as collateral. Collateral reduces risks for the lender, which can translate to more favorable terms and quicker approval. Plus you do not need to provide as much money as a down payment.
A Construction-to-Permanent Loan, (“all-in-one” or “single closing” loans), can be used to cover the cost of building a home. Upon final inspection and certification of the completed home, a loan can be converted to a permanent loan, and standardize a mortgage. Generally, you can choose a fixed-rate or adjustable rate loan. This is a cost-effective alternative to a traditional construction loan. Conveniently, there will be only one lender and one closing, making the whole process less of a hassle.
Wrapping Up: What Makes a Lot “Build-able”?
When selecting a lot, you need to consider facets that deem your lot as buildable, such as zoning ordinances, land feasibility, subdivision regulations, building codes, and permits. Understanding these concepts beforehand will alleviate post-sale stress and mitigate the risk of unexpected costs. Environmental concerns, such as endangered species habitats, wetlands, toxic contamination, and water quality must all be considered.
Ultimately, you must remember that when you build a custom home, the lender doesn’t have the collateral of an already-built home. When risks are higher for the lender, a more onerous approval process should be expected. However, these risks can be mitigated with detailed planning and documentation. Working with a reputable consultant and contractors, such as Belman Homes a custom builder in Waukesha, they can make the process easier and protect potential home buyers from financial deficits.