Construction Loan Guide
Everything you need to know about construction financing
What is a Construction Loan?
A construction loan is a short-term financing option designed specifically for building new homes or major renovations. Unlike traditional mortgages, construction loans provide funds in stages as your project progresses, and you typically pay only interest during the construction phase.
These loans usually have terms of 6-18 months and convert to permanent mortgages once construction is complete.
Types of Construction Loans
Construction-to-Permanent
Single closing process where the construction loan automatically converts to a permanent mortgage. This option locks in your interest rate and saves on closing costs.
Construction-Only
Separate loans for construction and permanent financing. Requires two closings but offers flexibility to shop for permanent financing after construction.
Application Process
Pre-Approval
Get pre-approved to understand your budget and strengthen your position with contractors.
Choose a Contractor
Select a licensed, insured contractor with a good reputation and detailed construction plan.
Submit Documentation
Provide construction plans, permits, budget, and financial documentation to your lender.
Appraisal & Approval
Lender orders appraisal and reviews all documentation before final approval.
Construction Begins
Funds are disbursed in stages as construction milestones are completed and inspected.
Requirements & Qualifications
Financial Requirements
- • Down payment: 20-30% of total project cost
- • Credit score: 680+ (some lenders require 720+)
- • Debt-to-income ratio: Under 43%
- • Cash reserves: 3-6 months of payments
- • Stable employment history
Documentation Needed
- • Detailed construction plans and specifications
- • Building permits and approvals
- • Construction contract and timeline
- • Cost breakdown and budget
- • Contractor licensing and insurance
Tips for Success
Financial Planning
- • Budget for 10-20% cost overruns
- • Lock in interest rates when possible
- • Have cash reserves for unexpected expenses
- • Consider seasonal construction costs
Project Management
- • Choose experienced, licensed contractors
- • Get detailed contracts and timelines
- • Regular inspections and progress monitoring
- • Maintain open communication with lender
Advanced Construction Financing Strategies
Managing Construction Costs and Overruns
Construction cost overruns are common, affecting 60-80% of projects. Successful builders implement contingency planning, regular budget reviews, and clear change order processes. Consider value engineering during planning to optimize costs without sacrificing quality. Track expenses weekly and maintain open communication with contractors about potential cost increases before they occur.
Interest Rate Risk Management
Construction loans often have variable rates during the building phase, exposing borrowers to interest rate risk. Rate lock agreements can provide protection, but they typically last 6-12 months and may require extension fees for longer projects. Consider the trade-offs between construction-to-permanent loans (single closing, rate protection) versus construction-only loans (flexibility to refinance, potential rate savings).
Working with Contractors and Subcontractors
Your lender will carefully evaluate your contractor's qualifications, including licensing, insurance, bonding, and financial stability. Experienced contractors familiar with construction loan processes can streamline draw approvals and inspections. Ensure your contractor understands lender requirements for documentation, progress reporting, and change order procedures. Consider contractors who have previous relationships with your lender.
💡 Ready to Get Started?
Construction loans can be complex, and every situation is unique. Use our tools and resources to plan your project and get accurate estimates before speaking with lenders.
Professional Resources and Regulatory Information
Official Government and Industry Resources
For comprehensive information about construction financing regulations, consumer rights, and industry standards, these authoritative sources provide valuable guidance: