CONSTRUCTION LOANS: WHAT ARE THE DIFFERENT TYPES?
Construction loans are specialized financing products used to fund the building or renovation of a home or other real estate projects. Here are the different types of construction loans:
1. Construction-to-Permanent Loan (Single-Close Construction Loan)
- Description: This loan combines the construction loan and the permanent mortgage into one loan with a single closing.
- Process: Funds are disbursed during construction, and upon completion, the loan converts to a permanent mortgage.
- Advantages: Simplifies the process with one closing, reducing costs and paperwork.
2. Stand-Alone Construction Loan (Two-Close Construction Loan)
- Description: This involves two separate loans: one for construction and another for the permanent mortgage.
- Process: The borrower takes a short-term loan for the construction phase and, upon completion, obtains a separate mortgage to pay off the construction loan.
- Advantages: Potentially more flexibility in terms of loan amount and terms.
3. Renovation Loan
- Description: Used for financing major renovations or repairs to an existing property.
- Types:FHA 203(k) Loan: Insured by the FHA and designed for homebuyers or homeowners to fund repairs and renovations.Fannie Mae HomeStyle Renovation Loan: Allows buyers and homeowners to finance both the purchase (or refinance) of a home and the cost of its renovation through a single mortgage.
- Advantages: Allows for renovation costs to be included in the mortgage.
4. Owner-Builder Loan
- Description: A type of construction loan where the borrower acts as their own general contractor.
- Requirements: Typically requires substantial construction experience and a detailed plan.
- Advantages: Potentially lower costs as the borrower can control the construction process.
5. End Loan
- Description: This is the mortgage that pays off the construction loan once the construction is complete.
- Process: Separate from the construction loan, the borrower needs to apply for this loan when the construction is nearing completion.
- Advantages: Allows for better rate shopping as it is obtained after construction.
6. VA Construction Loan
- Description: Backed by the Department of Veterans Affairs, this loan is available to eligible veterans and military personnel for construction.
- Advantages: Offers favorable terms, such as no down payment or mortgage insurance.
7. Interest Reserve Loan
- Description: This type of loan includes an interest reserve, which means the borrower does not need to make interest payments during the construction period.
- Advantages: Provides cash flow relief during the construction phase as interest is capitalized into the loan.
8. Bridge Loan
- Description: A short-term loan used to bridge the gap between the construction of a new home and the sale of the existing home.
- Advantages: Provides liquidity to proceed with the new construction without waiting for the sale of the current property.
Each type of construction loan has specific requirements, benefits, and potential drawbacks. Borrowers should carefully assess their financial situation and project needs before choosing a construction loan type.
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