Designing Your Home with Construction Financing in Mind
If you are getting ready to build your custom home and you plan to use construction financing, there are several factors to keep in mind to assure you have the best chance of getting the right amount of money to fund your loan. Many people who decide to build often have preconceived ideas about what size of home they want based on what they think is good enough for them. They also get wrapped up in trying to set their budget based on a “cost per foot” when determining the size of their home. Unfortunately, the way construction lending works or any lending for a mortgage works is set by comparable properties or “comps” in the location of your site. Once you find a building site, you will need to research and understand the type of homes, the sizes, and values of those around you to determine some basic needs of what you need to design your home too.
Several times our clients have gone through the design process, obtained their permit, and are beginning to close their construction loan only to find out that their plans appraised way lower than their expectations. What a bank will do at this point is ask for more cash down at closing to make up the difference in the value of the property from the appraisal the actual construction costs to stay within their required lending ratios or LTV. The result is the client is either looking for ways to cut costs or scrambling to find the right bank. I hear all the time or get inquiries often from people setting out their project parameters trying to go for a 2500 square foot home to keep the size and costs down. Or they may only have two bedrooms with minimal amenities. But if the rest of the homes in the neighborhood are 4000 square feet with 4 bedrooms, your value will be too low to cover the cost of the build.
Most homes on the market are built by a developer or on “Spec” (speculative investment). I would say that number is as least 95% of all homes and it could be more. And those home are built to fit at least 90% of all buyers. In order for those developers to get the proper ratios to receive the financing they need to build the house from the bank and make a profit, those homes are built as cheaply as possible. At least 95% of all homes are built as cheaply as possible. Think about that. When you embark on your custom home and move the scale on quality on any given part or in the design that is not economical which is very easy to do, you begin the process of paying a premium for your build. So, you must pay attention to the size and room counts of comparable properties within your neighborhood to make sure it is easy for a bank to get “comps” to your project to close your loan and get the most value out of your construction loan in general. When going to get your financing, your goal will be to get as much financing as possible while staying as “Liquid” as possible with your cash. Any other philosophy will only make the project go slower or not at all.