How Do You Pay for New Home Construction?The only thing more exciting than buying your dream home is building your dream home. But you can’t use a mortgage to buy a home that hasn’t even been built yet. Which means that unless you have the cash in hand (and let’s be honest — who does?), you may be left scratching your head. This is not a new problem; there are two primary types of loans that can help in this situation.

Construction to Permanent Loans

This type of loan may seem preferable, if only because there are fewer administrative fees involved. It’s also advantageous because the home buyer only pays interest on the loan, throughout the construction of the dwelling. It’s important to be aware that the interest is variable throughout the construction process, so, when rates rise, you should expect your monthly payment to be higher as well. In the event that the Federal Reserve drops short-term loan rates, your payments will drop accordingly.

Once construction has finished and your home is ready to be occupied, your lender will convert your loan into a more traditional mortgage. It’s at this time that you can either opt for a variable or fixed rate and choose between a 15- or 30-year term. This is also the point at which you can begin shopping around for lenders offering the best deals on rates.

It’s common for lenders to set the mortgage rate that you’ll be paying before the construction phase even begins. This helps you to be prepared for your average monthly premiums and may help you decide if this particular lender is right for you. As far as down payments go, requirements vary by lender. Typically, 20% of the final mortgage amount is expected, though some financial institutions may negotiate with you. Use this mortgage calculator to get an idea of how much you will be paying.

Stand Alone Loans

This type of construction loan is usually the better choice for those people who already own a home, which they plan on selling later. This is because it usually allows for a smaller down payment, making it possible for the family to stay in their current home during the construction phase. Once the new home has been built, the former home can be sold.

While this may be more convenient for the home buyer, it comes with a cost. More precisely, it comes with several additional costs, because it requires paying two sets of closing costs and two sets of administrative fees. First, you pay the fees on the loan for the construction; second, you pay the fees for the permanent mortgage.

Again, this type of loan comes with a required variable rate, meaning you may end up paying more than expected. If you don’t have a secure financial position, this may mean trouble in finding a lender willing to offer you a mortgage once construction is complete.Each type of loan has its own unique advantages and drawbacks. It’s important to choose the option best suited to your circumstances and to be made fully aware of the terms, before agreeing to anything. By educating yourself in advance, you’ll be better prepared for the unique terms and conditions of these types of loans.