How to Get a Home Construction Loan

These are the ways you can borrow money to build your dream home.

You may choose to have a home built if you are house hunting but need help finding the right one.

This is happening because “housing inventory remains at record lows,” Andrina Valdes (chief operating officer of Cornerstone Home Lending Inc.) says. More home buyers are choosing to build homes when there is limited housing available.

A home construction loan may be used to cover the land and home costs. There are two choices: Get a loan to cover construction, then get a mortgage or a loan for construction only.

A home construction loan process is the same as a standard mortgage, except that the lender must vet the builder. You need to know this to obtain a loan to build a house.

What are the Different Types Of Home Construction Loans?

Buyers can choose between a single-close construction-to-permanent loan or a two-close, stand-alone construction loan.

The difference is that a one-time-close loan construction loan can finance both short-term and long-term construction. Valdes states that a two-time close construction loan will require approval for two loans and two closings.

Construction-to-permanent, or C2P, loan: It funds the land and the construction, and then the loan converts into a permanent mortgage once the construction is complete. Because the borrowers pay only interest during construction, this loan is more costly than traditional mortgages. The loan can be converted to a standard mortgage, and the payments may then be recast according to the remaining loan term.

C2P loans have one advantage: the borrower does not need to complete underwriting or closing, which can help save time and money. Another benefit of this loan is during construction.

“If you lose your job or have a medical collection appear on your credit, it would not affect your permanent loan as it is already closed,” Melinda Williams, former mortgage loan officer and founder of, says.

She also says that you’ll lock in a rate for the permanent loan to “protect against interest rate fluctuations during construction.”

A stand-alone construction loan: This loan is short-term and pays to build the home. The lender will disburse funds to the builder according to the amount of work done. Borrowers pay interest on any withdrawals. The borrower must pay off the loan or get a new mortgage once it matures. This is usually within one year.

Valdes states that the type of mortgage you can convert your loan to depends on your financial and eligibility. She explains that to qualify for a VA construction loan one-time, you must be on active duty, a veteran, or a spouse surviving.

A stand-alone construction loan may be more costly than a C2P loan if you need a permanent mortgage. This is because there will be two loan transactions, each with two sets of closing fees. You could also pay a higher rate for a permanent loan.

What are the qualifications for construction loans?

The following requirements will apply to a loan for home construction:

  • Strong credit score. Conventional loans may require a credit score of 700. However, some lenders may have more flexible requirements. Credit score requirements might be lower for loans through the Federal Housing Administration and Department of Veterans Affairs.
  • A sizeable down payment. The loan type will determine the amount of your down payment. A conventional mortgage may allow you to pay 5% down, while a construction loan will require at least 20% upfront. Ask your lender for information on obtaining a construction loan without money down. FHA loans require a 3.5% down payment. USDA and VA loans may not require a down payment.
  • A licensed and reputable builder. The lender will verify that the builder can pay the suppliers and complete the project. Your builder must provide professional licenses, insurance proof, and vendors’ references detailing payment history. The lender will also examine the builder’s credit rating, financial standing, and other information.

Borrowers looking for a construction loan rather than a traditional mortgage generally have a higher standard. This is because the loan does not have collateral, meaning the home still needs to be built.

Valdes states that construction loans are “viewed as risky by lenders.” It can be challenging to qualify, and your interest rate might be higher than a traditional mortgage.

How do I get a loan for my home construction?

The application process for a home-building loan is the same as a regular mortgage, but there are a few additional steps. How to apply for one

Pre-approve for a loan to build a house. Preapproval means the lender will review your income and credit scores to determine your ability to borrow and your interest rate. Preapproval is a must before you approach a builder. This will allow you to set a budget for your home.

For pre-approval, contact a bank offering home construction loans. You will give permission verbally to pull your credit report and send the lender copies.

  • Recent pay stubs and proof of income.
  • W-2 forms for the two previous years
  • Tax returns for the past two years
  • Bank statements for the past two to three months.
  • Recent statements regarding other assets such as retirement or brokerage accounts.
  • If self-employed, earning statement

Preapproval usually means that you will receive a letter with an expiration deadline. Preapprovals can be valid for between 60 and 90 days.

Compare offers from licensed builders. 

Next, you will need a builder/developer to build your home. Ask your family and friends for recommendations. Or, check this National Association of Home Builders directory to get suggestions.

After comparing the offers from several companies, you will sign a contract with a developer or builder. Keep this document close at hand – it will be helpful when you apply for a loan to build a home.

Get multiple mortgage rate quotes. 

This will allow you to compare each offer’s terms, interest rates, and closing costs. To help you decide which program to consider, lenders who offer home construction loans will ask a few questions.

A single- or two-close construction loan may be available for conventional mortgages. FHA, VA, and USDA offer single-close construction loans.

A C2P loan can have a permanent loan term of 15, 30, or more years. You will choose a loan term for your first phase, usually 6-9 or 12 months.

Williams suggests you “take the longest term possible” to have enough time for weather, labor, and material delays.

Apply for a home construction loan. To determine eligibility, the underwriter will examine your credit, income, and credit history and decide if you can borrow.

The underwriter will assess the following:

  • Your credit reports and pay stubs. W-2 forms, tax returns, and bank statements.
  • A signed contract with your builder/developer includes an itemized budget and a construction timeline.
  • Financial statements, licenses, and insurance documents of the builder.
  • A land survey that shows where the house will go.
  • If you have it, the title policy for the land at purchase.

What is the difference between home construction loans and traditional mortgages?

The unique nature of new home construction loans is that they allow you to hire a professional to build your house and fund the mortgage over time. This is in contrast to traditional mortgages, which pay a seller upfront for a home that has been built.

Also, construction loans can be different for the following reasons:

Financing is a two-part process. 

A construction-to-permanent loan starts with a short-term loan, usually up to one year, that pays for construction and then shifts to a permanent mortgage. A construction-only loan is also possible, but you will need a separate mortgage for either 15- or 30 years. This means that there will be two closings.

Lenders have stricter credit requirements. However, they may qualify for conventional mortgages with a score of 620. FHA, USDA, and VA loans have more flexibility.

Borrowers typically have to pay a larger down payment, but a government-backed loan for construction allows you to make a small down payment.

Borrowers pay higher interest rates than traditional mortgage borrowers. 

You could pay up to 1 percentage point more for a construction loan if you don’t have collateral. Variable rates for construction loans are often linked to a benchmark rate such as the LIBOR.

The loan is paid in multiple lump sums. Williams explains that the lender divides the loan money into draws as the house is built. “If the customer does not already own the land, the first draw… will be used for the purchase of the land.”

After closing, you will need to make interest-only payments on disbursed funds. Valdes states that after a final inspection, the construction loan will be converted into a permanent loan.

The payment shifts to a principal-and-interest payment that is amortized over the remaining loan term.

Inspections are common. As the building progresses, draws on funds will be made. Before another check is issued, the lender will inspect the work. The lender will assign an inspector to ensure that all milestones have been met.

Keep in touch with your builder to request updates on paperwork. You should note that your builder may only pay subcontractors if they do so. To recover these losses, you will need to sue them.