On any given Saturday, you’ll find me enthralled by the latest episode of a home-improvement show. I marvel at the shiny bathroom tile or the hand-scraped hardwood floors. It’s hard not to image what it would be like to build my dream home.
Would it be somewhere in California overlooking the ocean?
A Rocky Mountain hideaway in Colorado?
Or maybe a red-brick colonial in the suburbs of D.C.?
And I’m pretty sure I’m not the only one who has spent hours imagining it all, right down to the drawer pulls and carpet colors.
But did you know that financing home construction is vastly different from a traditional mortgage? Did you know your VA benefits can help you make your dream home a reality?
Here’s the skinny on how to use your VA home loan benefits to build your custom home:
New Construction Financing 101
Unless you have enough money to pay a builder cash for materials and labor, it’s likely you’ll need to take out a loan. New construction is typically financed with a construction loan during the building process, then converted to a traditional mortgage once building is complete.
Some real estate developers and builders will pay for the construction phase so that approved homeowners only need to secure a traditional mortgage. Often this means you’re building a house in a planned community and can customize your home from a variety of plans and options offered by the builder.
However, if you want an entirely custom home (from your own blueprints) or if you want to build outside of a planned community, you may need to apply for your own construction loan.
During the construction loan process, the bank will review your building plans and release funds, as needed, for each phase of the building process. Generally, a homeowner will pay the interest on a construction loan during the building process, though interest is accrued only on the money that has been released to the builder. Interest rates for construction loans vary and many of the same financial requirements needed for traditional home loan approval will apply.
VA Construction Loans vs. Construction to Permanent VA Financing
One of the benefits of using a VA construction loan is that you will not be required to make any payments during the construction phase. Instead the builder is responsible for all fees and interest. Once the home is completed, the VA issues a certificate of completion, pays the builder and converts your loan into a regular mortgage.
Sounds great, right?
There was a time when VA construction loans were readily available, but thanks to many of the issues that tanked the U.S. housing market in recent years, a straight VA construction loan may be hard to find. If you find one, make sure you do your research before agreeing to any terms.
Currently, it is much easier to find lenders offering construction-to-permanent loans. In these cases, a construction loan is financed through a traditional or local lender. At the same time, a pre-approval letter for a VA loan is obtained with specific verbiage mentioning the intent to convert a construction loan to a permanent VA loan once the house is complete.
While this doesn’t guarantee you’ll get approved for a construction loan, it can make it a little easier. You will likely still be required to pay interest on the construction loan, and depending on your credit history and amount financed, you may be asked to provide a down payment.
VA Financing Special Requirements
Like a traditional construction loan, a VA lending institution will assign an inspector to your building project. The inspector is responsible for making sure each phase of construction is complete before money is issued for the next step of construction.
Also, in order to use the VA loan as part of the construction-to-permanent process, the builder must be registered with the VA and offer a minimum one-year warranty.
Just like a more traditional VA loan, there are limitations and restrictions. You must obtain a letter of eligibility from the VA before a lending institution can approve a VA loan. And a newly constructed home must still be inspected and appraised as part of the mortgage process. Deadlines and processes vary by state, so make sure you do your research ahead of time to avoid any surprises.
And don’t forget, there are caps on how much the VA will guarantee that vary by location. If you need a loan over that cap, you will be required to provide 25% of the difference between your loan amount and the cap as a down payment. But, even if you are buying over the VA cap, you’ll still enjoy the benefit of not having to pay PMI.