One popular question I get is “Do I need to sell my current home before I get a loan to build a new home?” and my answer is always “it depends.” If you’re seeking a construction loan for, let’s say, a $500,000 home and a $250,000 lot, that means you’re looking for $750,000 total. So if you already live in a home that’s paid off, there are no challenges there at all. But if you currently live in a home with a mortgage and owe $250,000 on it, the question is: can you be approved for a total debt load of $1,000,000? As the mortgage guy, I have to make sure that you’re not taking on too much with your debt-to-income ratio.
Some people will sell their current home and rent a house while they’re getting their new home built. Others will be able to live in their current home while building, and they’ll sell that house after the new one is completed. So most of the time, the question is simply whether you sell your current home before or after the new home is built. From my perspective, all a lender really needs to know is “Can the customer make payments on all the loans they take out?”. Everyone’s financial situation is different, so just remember it’s all about whether you can handle the total amount of debt you acquire.
5 Common Misconceptions and Mistakes
There are a few things that a lot of people don’t quite understand when it comes to construction loans, and a few mistakes I see frequently. Here are just a few:
Great news: some folks think they already need to own their lot in order to get a loan to build their home, but that’s just not the case! I frequently write construction loans for people that include both the house and the land: it’s all part of the cost of building a house. If you have your land already, that’s great, but you certainly don’t need to.
Sometimes people will get approved for a construction loan, which they get excited about, and in their excitement while designing their home, they forget that they’ve been approved up to a certain limit. For example, I once worked with some clients who we had approved for a construction loan up to $400k, and then they went merrily about designing their home with a builder. I didn’t hear from them for a few months and started wondering what happened, and they eventually came back to me with a totally different set of plans and a different builder, and the total price on that home was about $800k. Apparently, in the process, they forgot to tell me that they’d fired their old builder, and hired a new one, and made all kinds of changes in their home’s design and the scope grew out of control. I wasn’t able to get them financed for the new home because it had doubled in price!
” and they go out and buy a new car. …which can be a big problem, because it changes the ratio of their income and debt, which means if their qualifying ratios were close when obtaining their construction loan, they might not get approved for the mortgage that is needed when the construction loan matures. Don’t make this mistake!
In his case, I was able to help him by extending his construction loan so he could keep the house long enough for his credit score to bounce back, but it was a major hassle and I can’t always count on the ability to do that
This one may seem extremely obvious, but things happen sometimes that make a bigger impact than you might expect. I once had a investigate the site client who was halfway through having his house built, and he somehow forgot one payment on his current home’s mortgage. He rectified it relatively quickly, but enough time had passed that his lender reported his late payment to the credit bureaus and when the construction process was completed, he couldn’t get financed for a mortgage because his credit score had dropped so significantly. Even though he had a very large income and had plenty of equity in the deal, his credit rating dropped too sharply for us to get him the mortgage. The truth is that mortgage companies really don’t care what “the story” is on why you’re late on a payment-if you go on vacation and forget to pay your mortgage, your credit score is toast.
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