Borrowing Money to Build a New Home – Part 1

July 25, 2018 | Starr Tingle

If you need to borrow money to build a new home, I’m about to give you the steps to take to get your financing laid out in such a way that it won’t cause you a ton of stress.  The first step is SUPER important and yet most homeowners do not start here.  I honestly think they don’t because the construction loan seems like the logical first place to start, but I find it more rational to begin where you want to end:  with a fixed-rate mortgage.

Step 1:  

If you want to end up with a fixed-rate mortgage (30 years and 15 years are the most common) like most people, do (like I did!), go to a mortgage lender.  A mortgage lender is someone who works for a mortgage company originating fixed and variable rate mortgages which get sold on the secondary market.  Many banks have mortgage departments; if you have a long, good relationship with your bank, start with a call to them.  If not, ask friends who have purchased homes recently whom they used, if they liked them, and would they use them again.  The lender you decide to use is pretty significant; once you have them pull your credit report, you are going to want to stay with them.  If you move around to several different lenders, and they all pull your credit report, this will have a negative impact on your credit score.  A lower credit score could reduce the amount of money you can borrow, cause you to have a higher interest rate or both.  

Once you’ve identified your mortgage lender, set an appointment to be prequalified.  There are specific items you’ll need to take with you to the meeting, such as, but not limited to:

    – most recent two years tax returns and W2 forms

    – one month of current pay stubs

    – three months bank statements for any account that holds the money  you plan to use toward the costs of your new home

    – most recent retirement statement

    – know the payment and balance owed on any mortgages,  autos, student loans, credit cards, etc.

Tell the lender you want to know the max you can afford.  Make sure they check your credit report, credit score, etc.  and make sure you are very forthcoming on your current financial situation.  If you haven’t pulled your credit report in a while, you might log onto one of the big credit bureaus; they usually have an option for you to see your report for free.  It’s nice to look at to make sure everything has been paid on time, to make sure there haven’t been any liens filed against you, and if you have a lot of open accounts that have a  zero balance, you may want to write a letter to close them out.

At this point, your lender should tell you the max you can afford.  Here’s what you need to do with that information:  first, understand what that amount translates into a monthly mortgage payment; second, understand what, of the payment, constitutes property taxes, hazard insurance, and mortgage insurance, and third, think hard about how that number impacts your household budget.  

I’ve seen situations where a couple could afford a mortgage up to $400,000, and they thought GREAT! we can build our dream home!  Then they found out the monthly payment was almost $2,900 per month; they knew that number didn’t, in any way, work in their monthly budget.  

Once you’ve worked through all the numbers with your mortgage lender, and know how much you can afford, you are ready to begin talking, earnestly, with your builder.   Your mortgage lender needs to give you a pre-qualification letter outlining the type of mortgage you are approved for, an interest rate limit, and the max amount you want to borrow.  You should fee comfortable sharing this information with your builder. The builder you chose should be dedicated to helping you work within your budget and controlling your costs;  sharing your budget information to your should help you to stay in budget, not tip your hand and give them power over you.

Note:  while you are working with your mortgage lender on your prequalification, you can be interviewing builders during this time.  You should not talk to builders about specific house plans, or budgets, or finishes.  You should only be asking them questions and getting a feel for whom you click with and who will do the best job for you.

Thanks for reading!  ~Starr