5

For the sake of round numbers, consider this scenario:

$300,000 land purchase

$700,000 cost to build a home

$200,000 down payment

Figure building the home will take 1 year.

My question is, for construction loans, are full mortgage payments required as soon as the loan is obtained?

So during the year of construction, do I have to make mortgage payments even though I am not living there until it is finished? If that's the case I would have to pay double mortgage for a year - both on my current house and the one being built.

Or is there some stipulation where I can delay payments during construction?

  • The bank hasn't told me anything. – Sol Dec 27 '14 at 20:17
9

The bank issuing a construction loan pays the builder the total money not in one lump sum but in several smaller amounts (perhaps monthly) for all the work done since the last bill was submitted by the builder. The bank usually sends out an inspector to verify that the work the builder claims to have done has actually been done, and also checks that the builder has paid all his subcontractors for the work that they have done on his behalf. (The builder submits lien waivers from the subcontractors in which they affirm that they have been paid). You are involved in all this since all the paperwork comes first to you and it is you who sends it on to the bank with a request to release the funds. So it is useful for you to check for yourself that all the stuff that the bank is going to check, and indeed you should check even more. If you ordered a specific kitchen faucet and the plumbing subcontractor installed a different and cheaper one, the bank inspector will likely not even notice: "one kitchen faucet installed, check" but you will hear about the matter from your significant other for the rest of your life.

Thus, how much you owe the bank is an increasing amount as construction proceeds and yes, you pay interest each month on the amount you owe. The required payment each month increases as the balance owed increases month after month. Typically, monthly payments on construction loan are interest only; no part of the principal amount is repaid.

When construction is complete and all the final inspections are done and the city issues you a Certificate of Occupancy, you apply for a regular mortgage loan. This pays off the construction loan and you start making regular mortgage payments. Note: you don't have to get the mortgage loan from the same bank that issued the construction loan, but you do need to not dawdle on this because interest rates on construction loans are typically quite a bit higher than mortgage loan rates, and so it is in your best interest (pun intended) to switch to a regular mortgage loan as soon as possible.

At least, that's how things work in Illinois. People in other states and countries might have to operate under different rules.

  • 2
    A few banks (such as Washington Federal) offer construction loans that automatically convert into 30-year fixed rate mortgages. With many banks, the rate on the permanent loan is set at the time of conversion. Washington Federal sets the permanent rate at the time the loan is originated. – Jasper May 9 '15 at 16:12

protected by Community Sep 29 '16 at 8:33

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