Construction loans are a type of financing specifically designed to fund the construction of residential or commercial real estate projects. These loans are temporary and are typically replaced by long-term mortgage or permanent financing once the construction is complete. Here are key points to understand about construction loans:

  1. Two Phases: Construction loans generally consist of two main phases:

• Construction Phase: During this phase, funds are disbursed to cover construction costs, such as labor, materials, and contractor fees. Borrowers make interest-only payments based on the disbursed amount.
• Permanent Phase: Once construction is finished, borrowers often seek permanent financing, like a mortgage, to repay the construction loan. This permanent financing converts the short-term loan into a long-term mortgage.

  2. Interest-Only Payments: Borrowers typically make interest-only payments during the construction phase. This helps manage cash flow during the project.

  3. Short-Term: Construction loans are short-term loans with terms that usually last from six months to three years, with an option for extensions if necessary.

  4. Interest Rates: Interest rates on construction loans are usually higher than those for traditional mortgages, reflecting the short-term nature and higher risk of construction projects.

  5. Loan-to-Cost Ratio: Lenders evaluate the loan-to-cost ratio, which compares the loan amount to the total cost of the construction project. Borrowers may need to contribute a certain percentage as a down payment.

  6. Loan-to-Value Ratio: Lenders also consider the loan-to-value (LTV) ratio, which compares the loan amount to the appraised value of the property. The LTV ratio can influence the amount you can borrow.

  7. Credit and Qualifications: Borrowers must meet specific credit and financial qualifications to secure a construction loan. Lenders assess creditworthiness, income, and the feasibility of the construction project.

  8. Construction Draws: Funds are typically disbursed in stages, or “draws,” based on the completion of specific construction milestones. Borrowers need to provide documentation to prove that these milestones have been reached.

  9. Builder and Contractor Involvement: Lenders often require that a licensed contractor or builder be involved in the project, ensuring that construction proceeds as planned.

  10. Specialized Lenders: Construction loans are typically offered by banks, credit unions, and specialized construction loan lenders.

For a successful construction loan experience, it’s essential to engage the expertise of professionals. Please contact Obelisco Advisers experts to guide you and provide valuable advice throughout the construction loan process. They can offer insights and assistance to ensure a smooth transition to permanent financing once the construction project is complete.