Construction Loans are loans offered by financial institutions to help individuals build or redesign their houses. Construction Loan is a name which is well-known in the US.
The loan depends upon an appraisal which takes into account the value of land, the scope of work (whether it is a new construction or a renovation), the construction budget and the borrower’s credit and assets.
Construction Loans involve a lot of complexity as compared to Purchase Loans. The factors behind this are establishing a concrete budget, contractor search, getting an appraisal which gives proper justification of the cost involved, and having the financial capacity to pay the loan. One feature of these loans is that they sometimes incorporate the pay-off of the building site. Construction Loans carry a higher rate of interest and closing costs due to their complexity and the risk involved.
“Draw” refers to a process through which funds are taken from the loan. To state in simple words, draw is a procedure through which funds are taken from the construction budget in order to pay for supplies and the contractor. Each Lender has its own separate requirements for processing a draw. For example, some of the lenders permit the borrowers to ask for draws online others insist on paperwork and periodic inspections.
Various factors determine the decision for going ahead with a construction loan. First, you should clearly determine the size of your budget. Once you get money in your hands after the loan is approved, it is very easy to waste that money on unnecessary things. Hence, you should keep your financial condition in mind before going on a shopping spree. Also, an oversize garage or rooms for children who are yet to be born, will only add to your loan amount.
Secondly, you should consider whether you will be able to repay the loan which you have taken within the given time period. Hence, analyzing your capacity of paying off the loan is important. If you cannot do it, you may end up losing everything and will be pushed into a financial crisis.
There are some loans which only cover the actual construction time, then you refinance when construction is complete. The other loans are known as “construction to permanent” loans. In this kind of loan, once the construction work is finished, the borrower can modify to the permanent financing term of his choice without a traditional refinance. This type of loan is favorable because of one set of closing costs. Construction loans mostly commonly come with a 12, 15 or 18 month term.