I frequently have potential borrowers state that they want to participate in the construction of their new home to save money. Unfortunately this is another layer of risk for construction lenders in an already risky loan. No lender I know of will allow the borrower to do this on a low down payment 1x close loan. Typically a borrower will need to have a full builder contract, a contract that does not contain any reference to the borrower being responsible for any part of the construction.
There are a small group of lenders that will do construction loans for owner/builders but the requirements are high. The borrower will need to have at least a 20% down payment or equity into the project, a credit score in the 700’s and a reasonable debt to income level. They will need to present a complete line item budget for the project when applying. They should also have several thousand dollars in cash reserves as “float” money, cash for labor and materials prior to getting a draw for the completed work. Borrowers will typically have to pay 3-5 points plus standard closing costs to get these loans.
These owner/builders will then have to refinance these loans once the project is complete. They will need to order a new appraisal and completely requalify for the end loan. This is known as a two-time close process.
New home builders should take some time to consider just how much they will by being their own contractor, and the time it will take out of their lives, before wandering down this road.
So you have a budget for the home you want to build and you really need to get as big a home as you can. Maybe you have a large, growing family and need all the bedrooms and bathrooms that you can get. You may be tempted to spend less on the land and more on a bigger home. Big mistake!
Maybe lots of land is your thing. Why buy a 1 acre parcel when you can get 10 acres! Also a big mistake.
Take a careful look at the sales of other homes in the area. You want to be inline with the prices, style, and land sizes of these homes. If you don't, you may be headed for lower than needed appraised value for your construction loan.
The FHA appraiser will have to use recent sales of similar homes to justify what you are spending to build your home. HUD (the administrator for FHA loans) will only allow an appraiser to make small adjustments up on the sale price of a smaller home. So you may find yourself spending $200,000 on a home that may only appraise for $160,000 due to the fact that most homes in the area sell for $120,000. Even though those homes may be smaller than what you want to build.
If basements are the standard foundation in your area, don't build on a crawlspace or slab. Don't build a two-story home in a subdivision of ranch homes. Lenders don't like to lend on odd homes for the area. The lender always has to think about how much and how quickly they can sell the home if they have to foreclose. Homes that are "unique" for the area or have unique features don't sell as quick, or for as much, as conforming type properties.
A mortgage application, of any kind, is suppose to be a "snapshot" of the applicant's employment, income, debt, assets and credit worthiness. Don't move while the lender is trying to take this picture!
How do you "stand still" and not jeopardize your approval? Follow these rules;
1. Don't quit or changes jobs.
2. Don't buy anything on credit. This includes credit card purchases.
3. Don't apply for new credit. This could affect your credit score.
4. Don't move large sums of cash from one account to another.
5. Don't payoff, or pay down, your current debts.
6. Don't make your Good Faith Deposit in cash.
It's possible that you could make any of these moves and still be approved. Just make sure you have a discussion with your loan officer before making these moves.
If you are planning on building a new home, and have been told you don't make quite enough to qualify, you may want to consider getting a co-signer. FHA doesn't want you to spend more than 43% of your monthly income on your new home payment and all other debt service. For a young, growing, family that can be a challenge.
FHA will allow a family member to co-sign the loan with you as a non-occupying borrower. FHA will take everyone's income and everyone debt into consideration when applying the 43% debt-to-income limit.
Keep in mind that all applicants must meet FHA credit qualifications. A co-signers good credit can not overcome a borrower's poor credit. As always, call me to discuss your situation.
Is someone gifting you the land you're going to build on? Great! The FHA construction loan program allows you to use this as your down payment and even let you roll in closing costs. FHA does require that the land donor state, in writing, that this is a gift. The donor must be a family member or close friend.
If your gifted land is a freestanding piece of land, with no liens, it's own legal description and tax id number, then you are all set to build. This assumes that it meets all local and state requirements for a building permit. If, however, your gifted land is part of someone else's land, and/or has a lien on it, you have some work to do before breaking ground. Let me explain by using a common example I dealt with over the years.
Your Grandparents have a home that they bought 20 years ago. It's a large lot, several acres, and they have a small mortgage left on the home, let's say $50,000. They would like to split off a part of the land and gift it to you to build on.
Your first step is to find a survey of the lot and where the current home is placed. Have the local building department review it to see if the lot you're splitting off, and the remaining home/lot, both meet their building requirements. This will just be an informal review.
For a formal approval you will need to hire a surveyor to survey the existing lot and come up with legal descriptions for the vacant lot and the new lot. If the local government approves your split you will then have two lots, each with their own legal description and tax id number.
Now you have to get the lien removed. Keep in mind that the mortgage lien is not just on the home, it's on the land as well. All of the land, no matter if you split off a portion or not. So your new lot has your grandparent's mortgage lien on it. The FHA construction loan program will want to have the first, and only, lien on on the property. So this mortgage lien needs to be paid off or removed by your grandparent's lender.
The lender should be willing to remove the lien if they feel they have sufficient equity in the "parent" lot, the lot your grandparents still own. You would need to call the lender, explain the situation, and request an application for a "partial release of lien". This is not a common request so you will need to be persistent and ask for a supervisor.
There can be situations where you are not going to be able to pull this off. The lot may be too small, it may not have enough "frontage", the lien may be too large. My suggestion is that you call me or your builder. We can help walk you through your situation.