A construction-to-permanent mortgage is a loan that enables you to obtain a mortgage before your home is built. It gives you the funds you need to have the home built and then continue to finance the finished structure. It differs from a standard FHA loan or even conventional loan because the home does not exist, so it will not pass an appraisal or inspection. During the initial construction phase, you pay strictly interest payments. Once the loan converts to a permanent mortgage, you then begin to pay full amortized payments as you would on any other mortgage type. Because of the different type of financing offered with this mortgage program, there are different disclosures required in order to proceed and abide by the mortgage laws.
Special Documents Required for Construction to Permanent Loans
Among the documents necessary for the FHA construction to permanent loan are:
- A rider on the standard mortgage note that states that any terms that are unique to the construction loan are eliminated once the loan converts to a permanent mortgage. Upon completion of construction, the permanent loan terms take over and the standard mortgage documents take precedence. Once this occurs, FHA insurance can be activated.
- A construction loan agreement must also be a part of the closing documents. This document should include all of the details regarding the construction, including the intended start and end dates. The document should also include all of the costs for the construction, including any special costs for the contractor. If you are building the home yourself, the document should detail the actual costs for building the home rather than the contractor costs.
- An FHA mortgage insurance disclosure that shows that the borrower understands that no FHA insurance is applicable until the construction is completely finished. A final inspection is required in order to allow the insurance to kick in, which the lender handles. In addition, if the certificate of occupancy has not been administered by the governing agency yet, insurance cannot kick in until that occurs.
- You must provide proof of ownership or purchase of the land that the home will be built on.
One or Two Loans
The most important thing you must determine before agreeing to a Construction to Permanent mortgage is whether it will be one mortgage or two. If there is just one mortgage, meaning that the construction portion of the mortgage flows directly into a permanent mortgage upon completion of the construction, only one set of disclosures are required at closing. These disclosures cover the entire process from construction to closing. If there will be two loans – one for construction financing and one for permanent financing, there will be separate disclosures and closings that take place for each phase.
What’s the Benefit of a Construction to Permanent Loan?
Because of the added disclosures and requirements for the construction to permanent loan, many people wonder what the benefits of such a loan can be. The following benefits apply to almost every situation where you are building your own home or overseeing the work of a contractor that builds your home:
- Fewer fees – Closing on the same property more than once means more fees. You not only have to pay the closing fees twice, but any other administrative costs as well as loan costs will be incurred twice. When you close one loan for the entire process, you only pay the fees one time because the loan automatically converts once the construction on the home is complete.
- Fewer headaches – You do not have to handle any of the money that exchanges hands as the home is built. The money borrowed for construction is placed in an escrow account which the lender disburses according to the predetermined schedule, which means fewer headaches for you.
- Inspections are done – The lender needs to have inspections completed in order to disburse funds, which means your house is under constant scrutiny, ensuring that it is built according to FHA guidelines so that you have no problems converting the loan to a permanent mortgage and activating the FHA insurance.
- Focus strictly on your home – With fewer financial issues to overcome and legal issues to contend with, you can focus on making choices for your new home, which most new homeowners enjoy much more than dealing with mortgage issues. Once the loan is closed, there is nothing that you have to deal with except choosing colors and options for your home.
There might be more documents required before and at the closing for a construction to permanent loan, but in the end, it provides many more benefits. With one loan to deal with, you have a lower chance of getting confused and messing up your financing options. In addition, the payments for the construction phase of the loan are basically just the interest component, which means they are much lower than your standard mortgage payment. This gives you the freedom to live somewhere else while the home is being built without feeling like you have to make two mortgage payments, putting you under too much stress.
If you close the permanent to construction loan with one closing, the process is done quickly, enabling you to focus on your new home. You do not have to worry about re-qualifying or going through another loan closing. Once it is done, you sit and wait for your home to be completed. If you use the FHA construction to permanent loan, the guidelines to qualify are flexible and the standards easy to meet. Once the FHA insurance kicks in, it means your home has passed all codes and inspections and you are free to live in your new, beautiful home without worry.
It is important to use a lender that is well versed in FHA construction to permanent loans to ensure that the process goes as smoothly as possible. Be sure to shop around with different lenders to see what options are available to you including the financing terms and interest rates. Some lenders only offer two-phase loans, while others are willing to close it all in one transaction.