Construction & Lot

Construction Loan FAQ

Is a general contractor required?

Yes. A general contractor oversees the construction of your home and is responsible for providing material, labor, equipment, and services necessary for the project, which includes hiring specialized subcontractors to perform portions of the construction work. Finding a reputable, licensed general contractor is vital to ensuring a job well done.

How is a borrower’s down payment calculated, and when is that payment made?

A borrower’s down payment is the difference between the total construction costs (including land) and the amount of the loan. The balance of the funds to complete the construction are due at the loan closing, just as it would if borrowers where purchasing an existing home.

What are the closing costs?

Typical closing costs include an underwriting fee and third-party costs for items such as appraisal, title insurance, draws and inspections, closing, credit report, recording, and flood determination. Closing costs are to be paid out of pocket at time of closing.

Is an appraisal required? If so, how is the value determined?

Yes, an appraisal is required. The value is calculated subject to the completion of the construction. The appraiser will need a copy of the plans and specifications as well as the cost breakdown of the home to be constructed. The value includes the land that the house is built upon.

How does the appraisal affect the amount that can be borrowed?

The down payment is calculated using the lower of the cost of construction plus land value or the appraised value. Therefore, if the appraisal comes in lower than the cost of construction plus land value, then a larger down payment may be required.

What if there is a mortgage on the land I plan to build on?

The outstanding balance on the land will be refinanced into the construction loan. The construction loan will include the balance on the land plus the costs to build.

What special insurance requirements will I need for my construction project?

During the construction of a home, the borrower has additional risk that he or she will not normally have on a home that is already built.

Builder’s risk insurance can be defined as coverage that protects your insurable interest in materials, fixtures, and/or equipment being used in the construction of your home should those items sustain physical loss or damage from a covered cause. Builder’s risk will provide coverage for damage done to the insured structure from a wide variety of events. Damage from the following events will be covered by most policies:

• Fire
• Wind (may be limited in coastal areas)
• Theft
• Lightning
• Hail
• Explosion
• Vandalism
• Vehicles/aircraft

Most builder’s risk is written on an “all perils” basis — the loss is covered from any cause, unless specifically excluded by the policy.

How is interest calculated and paid during construction?

Interest is calculated on disbursed balances, not the whole loan amount. Borrowers are billed every month for the interest due on their loans. The interest amount due will be paid directly from the borrower’s own funds.

What is a draw?

A draw is a request to have funds disbursed from your construction loan. Your disbursements are intended to cover specific expenses incurred during your home’s construction, as itemized in the Cost Breakdown section of your Construction Loan Agreement. The average size home typically has four (4) draws and inspections.

How are disbursements made?

All disbursement requests have to be accompanied by a draw request form. The draw request form is executed by borrowers and general contractor, specifying the amount of the draw and the type of draw. The general contractor then submits the draw to the title company. A copy of the building permit should be submitted with the first draw if it is not already on file. An inspection is required for each draw. The inspection is ordered by the title company and once complete is then forwarded to the lender for review. Upon satisfactory review, the lender disburses funds directly to the title company. The title company will pay your builder directly or the subcontractors as per the signed disbursement agreement.

How long does it take to receive a disbursement?

This process may take 5 to 7 business days.

Do draws need to be run through the title company?

Yes. The title company keeps an accurate accounting of funds disbursed from the loan. They collect lien waivers throughout the project from those to whom they disburse.

I heard that some improvements require deposits. Is that true?

Yes, some material suppliers or subcontractors will require deposits for items such as cabinets, windows, or any specialty improvement that requires custom craftsmanship. The amount of the deposit should not exceed 50% of the total cost of the improvement and is paid directly to the contractor or supplier. The remaining 50% of the improvement is paid after installation.

When should I inform you if there are changes on the project?

Immediately! Change orders may occur. A copy of the signed change order should be submitted with the draw request. Be prepared to pay out of pocket for change requests and cost overruns.

What happens once I've reached my final draw request?

By the time you make your final draw request, your home should be complete. Now it is time to apply for permanent financing.

What is considered complete?

All items listed in the cost breakdown and reflected in the appraisal must be complete. An exception would be winter weather-related items such as landscaping and outside concrete work. When this occurs, an escrow holdback account is established by the title company for 1.5 times the amount of the work yet to be completed. Once these items are completed, the title company will pay the builder or subcontractor as per the signed disbursement agreement.

Are there additional costs involved for the permanent financing loan?

Yes. Standard closing costs apply.

What are the items needed for a borrower in order to apply for permanent financing?

The following items are needed with the new application:

• A certification of completion from the original appraiser
• Updated income verification
• An updated credit report
• Title insurance

Does this mean I have to sign new loan documents?

Yes. The loan is considered a refinance, and the construction loan will be paid off with the new loan.