Overview
A construction loan is a type of financing specifically designed to fund the construction or renovation of a new residential property or a major remodel of an existing property. Construction mortgage loans provide financing for individuals or developers looking to build or renovate residential properties. These loans offer flexibility and funding tailored to the unique needs of construction projects, but they also involve additional complexity and requirements compared to traditional mortgages.
Two-Phase Structure
Construction loans typically have a two-phase structure.
During the initial phase, known as the construction phase, funds are disbursed to
cover the costs of building or renovating the property. Once construction is
complete, the loan converts to a traditional mortgage, allowing the borrower to
repay the remaining balance over an extended term.
Draw Schedule
Lenders disburse funds to the borrower or the builder in
installments, known as draws, based on a predetermined draw schedule. The
draw schedule outlines specific milestones or stages of construction that must be
completed before funds are released.
Interest Payments
During the construction phase, borrowers typically make
interest-only payments on the amount of money disbursed by the lender. These
payments help cover the cost of borrowing and accrue interest only on the
portion of funds that have been drawn.
Loan Terms
Construction loans typically have shorter terms compared to
traditional mortgages, usually ranging from six months to two years. Once
construction is complete, the loan converts to a permanent mortgage with a
longer repayment term.
Builder Requirements
In some cases, lenders may require borrowers to work
with approved builders or contractors who have experience and expertise in
construction projects. This helps mitigate the risk associated with the
construction process and ensures that the project is completed successfully.
Down Payment
It varies case by case – the minimum down payment required is 10%.
