Planning to build a new home or remodel your current? Do you know your construction financing options? For many, the answer is no, I have no idea. Below is a Q&A between myself and my lender, Tim Sibley with Bank of Hope to help get you started.
What are your financing options for a remodel and/or new construction?
There are basically 2 options.
- Equity Line – A great vehicle if the loan size is not too large and there is equity in the property. We can access up to 90% of the value of the home. This is an adjustable line of credit that you pay as you use. It is tied to the Wall Street Prime Rate currently at 4.50% + a margin typically 0.75% to 1.50% depending on various aspects of the file. They are basically cost-free and are available to draw funds from over a 10 year period. Minimum payment is the interest-only payment that covers the interest due but any amount can be paid to reduce the principal.
- Construction Loan – If a large amount of money is needed and the project is substantial, you need a construction loan. You will need to have plans in place and a cost budget for the project. The loan amount will be based on 75% of the total cost of the project including purchase cost or current value if already owned. It will also take into account value upon completion. The loan is a 5 or 7-year term with interest-only payments during construction then fully amortized once occupancy certification is issued thru the end of the term. This involves an escrow with title insurance, appraisal, and various other fees so assume $5,000 to $10,000 depending on loan size. The rate is in the low 4% range with 0 points.
Questions regarding Construction Loans:
Let’s assume the following scenario: You purchase a lot/tear down for $1,000,000. You take a traditional purchase loan with 20% down. You plan to build a new home for $1,000,000.
- How much of the construction cost are you able to finance? The maximum loan amount is 75% of total cost. This includes purchase price, cost of construction and closing costs. In your scenario, the cost is $2,000,000 so 75% would be a $1,500,000 loan amount. Your client has $200,000 in the deal from his down payment so he would need another $300,000 to make it work.
- How does the construction loan affect your purchase loan? The construction loan would swallow up the current loan and then grow as you underwent construction and took draws.
- How do you take draws from the loan? As you hit milestones the contractor will make requests to the lender.
- If draws are based on a percentage of work completed, how do you account for material/finish purchases made directly by owner? You would submit to be reimbursed for out of pocket expenses.
- How is the interest applied to the loan? (i.e. is it based on the draws?) Interest is calculated on the amount of the loan used during that payment period. You have the option of an interest reserve built into the loan which the payment could come out of during the course of construction.
- What is the repayment schedule? A 30-year term with interest-only payments during construction, then fully amortized for the remaining term. The rate is typically locked for the first 5 or 7 years of the 30-year term.
- What happens when construction is complete? A lot of loans these days are one time close, meaning after construction it automatically rolls into a permanent loan, so you are not forced to do anything. You are always able to refinance it if there are better rates at the time.
Tim Sibley is an excellent resource for all of your lending needs. He has been my go-to lender for the last 8 years. I want to be clear, the only thing I get by referring Tim is the peace of mind that my clients will be taken care from start to finish and that is a wonderful thing. His contact is below:
Tim Sibley
