Self Build Construction Loans & Owner Builder Loans

If you’re a real estate investor or a new homebuyer looking to create a dream home, a self build construction loan may be the right option. With this type of construction loan, you can build a new home and save money by acting as your own general contractor. If you already have homebuilding experience, you may be able to qualify for a self build construction loan.

In this article, we explain what a self build construction loan is, how homebuyers and real estate professionals can qualify, and what it costs. 

What Is a Self Build Construction Loan?

A self build construction loan is a specialty loan that borrowers use when they plan to build a residential home and act as the general contractor during the construction process. It’s also called a DIY home build loan or an owner builder construction loan. 

To qualify for any kind of construction loan, you usually need a qualified builder — meaning a licensed contractor with demonstrable experience building homes — to sign on to lead the project. With a self build construction loan, you’re acting as your own general contractor. 

You’ll usually have to provide proof that you know how to build houses for the lender to approve your loan. You may need to have:

  • A license
  • Construction insurance
  • A detailed plan for the construction process
  • Experience with building homes 

If you have had experience building homes and managing subcontractors in the past and you have the necessary documents, you may be able to obtain a self build construction loan. It could be a good fit when other small business loans can’t fulfill your real estate development needs.

How Do Self Build Construction Loans Work?

A construction loan can be more difficult to qualify for than other housing loans because of several factors. First, mortgage lenders are being asked to hand out money for something that hasn’t been built yet — there’s inherent risk in a construction loan since there’s no collateral in your house to fall back on. The current housing market, with its rising cost of goods and frequent shipping delays also aren’t helping. These factors make self build construction loans more risky to lenders than a traditional mortgage loan. 

Once you’re approved for a self build construction loan, you don’t get the money in a lump sum like when you buy a house that’s already built. Instead, the money is distributed as building progresses. You can’t use the funds toward home design or furniture — but expenses like home appliances count as construction costs. Because you’ll supply a timetable for the planned construction period before getting the loan, you’ll want to ask your lender what happens if you run into delays or go over budget.

When you finish building, the construction loan is due — but you don’t have to pay it off right away. Instead, you can convert into a traditional mortgage through a refinance if you’re buying or put the house up on the market if you’re selling. Then the homebuyer will begin making regular monthly payments.

A construction loan can cover the cost of land and permits. But because the land purchase is usually the most expensive part of the home build process, you could consider buying the land first using a land loan or a blanket loan if you’re a developer. The easiest option is to look for build-ready lots that are already permitted and have all the hookups you need. But if you have time, you may be able to add those yourself. 

Common Terms, Rates, and Fees of Owner Builder Loans

Just because it’s harder to qualify for a self build construction loan doesn’t mean it’s impossible. Lenders usually offset their risk by making it more expensive for borrowers to take out these types of construction loans. You’ll often have higher mortgage rates and down payment requirements. On the plus side, these are short-term loans, so payment is usually due within a year, or once the construction phase is over. So you would only pay the higher interest while building the new house. 

With a self build construction loan, the down payment may fall between 20% to 25%. And as mentioned, your loan rates will probably be higher with a home construction loan, but the exact rate you can get varies based on your financial details.

Like with a standard mortgage, you’ll also pay closing fees for things like the appraisal, title searches, and administrative expenses. These cost about the same as a regular mortgage, around 2% to 6% of the loan amount. Developers can avoid paying multiple closing costs by using a blanket loan. Homebuyers may be able to avoid paying closing costs twice by using a construction-to-permanent mortgage that has a one-time close. A construction-to-permanent loan automatically converts to a mortgage, but your interest rate will probably be higher. It’s best to compare the total cost of each type of loan before making your decision.

What it Takes to Qualify for a Self Build Construction Loan

It takes a lot of work to prove to a lender that a self build construction loan isn’t too risky of a project to take on and that you can manage to finish it. First, you’ll likely need to have a good to excellent credit score to qualify for this type of construction loan. The lender will look also at your debt-to-income ratio, cash reserves, and your down payment compared to the project costs to ensure you can repay what you owe.

To make yourself look as prepared as possible, you can make a “blue book” that details all the factors and features of your construction project. Work with a builder or learn how to do it yourself.

Pro tip: It may be faster for pre-qualified borrowers to get an owner builder loan. When you get pre-approved, the lender has already looked into your financials and decided whether or not you are a good candidate for a loan. This step can speed up the final process significantly.

How to Apply for a Self Build Construction Loan

Before applying, you can use an online calculator to figure out how much you need to borrow. It’s best to assume your project will go over budget to avoid running into any issues with funding. Because you only pay interest during the build, current homeowners may ‌have the ability afford to stay in their current homes until their new house is finished. 

Once you’re ready to apply for a self build construction loan, you’ll need to gather the documents that each specific lender requires. You’ll be required to present more documents if you’re acting as your own general contractor, such as:

  • Your personal finance information, like your bank records and your social security number
  • Your construction license
  • Your plan for construction, or “blue book”
  • Proof of insurance and building credentials
  • Prepaid homeowners insurance

If you have already pre-qualified, you’ll have a better idea of how much you’ll be able to borrow.

FAQs

Do You Have to Have a Down Payment for a Construction Loan?

To qualify for a self build construction loan, you’ll usually need a down payment of between 20% to 25%. However, the federal government offers other types of construction loans to qualifying applicants through the USDA and the Department of Veterans Affairs that may not require any money down. If you can’t afford that high of a down payment to build your own home, there’s also the option  to get a more affordable loan through the U.S. government. 

Do You Pay on a Construction Loan While Building?

Typically, lenders only require that you pay interest on the loan while you’re building. Your interest rate may be higher than with mortgages, but at least you don’t have to make full payments during the construction process. After building is complete (and the construction loan is probably turned into a mortgage), you’ll start making regular mortgage payments.

Is it Harder to Get a Construction Loan Than a Mortgage?

Yes. Because the home isn’t built yet, it’s riskier for a lender to offer you money for it. A standard mortgage funds a home that already exists that can act as collateral in case you can’t make payments on the loan. So a construction loan can be more difficult to obtain.

Other Options for Real Estate Investors

Investing in real estate can be costly, so if your business needs additional funding while you’re in the homebuilding process, take a look at Nav’s list of best credit cards for real estate agents and investors. Credit cards can help you ‌pay for smaller business purchases and help with cash flow when you need it — and some even build business credit just for using them.

This article was originally written on May 13, 2022.

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Self Build Construction Loans & Owner Builder Loans