Whether you are a contractor hoping to build multiple houses for sale or an individual wanting to build your dream home, land titles are excellent collateral for construction lenders. Depending on your credit score and history, some lenders will accept the title to the land to help secure the construction loan you need. U.S. real estate law, patterned after the law in Great Britain, technically deeds land to owners. Any man-made structures built on the property also belong to the landowner.
Land Titles as Collateral
In most situations, offering land as collateral requires that the property is free of liens. Lenders seldom accept land that has a prior lien or mortgage. Any lender willing to loan against land that has a prior recorded lien will do so only at higher interest rates. Unimproved, or bare, land values can fluctuate widely, sometimes in short periods of time. Depending on the appraised value at the time of the loan and current trends in the real estate market, lenders typically loan only up to 50 to 60 percent of the value. However, if the borrower is building a home, lenders may loan up to 75 to 80 percent of the land value — or more.
If the land title is clear of liens and is the property on which the house is to be built, a construction lender may loan up to 100 percent of the construction cost of the new home. This formula works if the land value equals 20 percent or more of the total value of the finished product. For example, if your land is worth $50,000 and you need $150,000 to build your home, the completed project will be worth $200,000. With a $150,000 loan balance, your loan-to-value is 75 percent ($150,000 divided by $200,000). After construction, you can get the permanent home loan of your choice from most mortgage lenders, when you have a 75 percent loan-to-value.
Take your deed to the land, along with the plans and cost estimates for the to-be-built home to a construction lender. The lender will order an appraisal of the land and an "as-complete" appraisal of your new home. You should receive an approval for a construction loan equal to 70 to 80 percent of the total estimate of the completed value of land and home. Most construction lenders will structure from three to six disbursements from your loan, payable as specified work is complete, such as foundation, framing, plumbing, electrical and finish work. Your construction loan term will typically run from three to 12 months.
When the construction is complete, you will need to replace your construction loan with a permanent mortgage loan. You will have another closing, at which you will pay off your building loan, receive your land title back and record a new mortgage deed or deed of trust. Some construction lenders also offer "construction-permanent" loans that convert to permanent mortgages after your home is approved for occupancy.
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