This spring is shaping up to be the most competitive homebuying season in decades, with inventory at historic lows and plenty of buyers to drive up prices in every part of the country. As springtime temperatures rise and buyers play seek-and-find, it’s not unusual for sellers with attractive homes priced at market value to have an offer within days (or hours) of being listed.

New home sales are full throttle, and prices are too, dampening the dreams of those who want today’s amenities and features at an affordable cost.

But for buyers with a vision and a plan, the market’s tight supply and rising prices can create unique opportunities to have their proverbial cake and eat it, too. These folks are open to seeking less-than-perfect homes – houses with good bones in good neighborhoods, or home sites that can be transformed into exactly what they’re looking for.

These buyers may even have a vision for renovating their own homes instead of trading up. Indeed, the era of HGTV offers guidance for what is possible: A 1950s cottage, in a state of disrepair, gets revitalized into a 21st century smart home; a neighborhood eyesore, on a large unkempt lot, morphs into showplace; a 1980s center hall colonial gets an open floor plan and the “wow” factor the owner wants.

Financing a Fixer-Upper: Construction-to-Permanent Mortgage Loans

To meet the needs of buyers who want to build, renovate or create their dream homes with the help of builders or general contractors, some regional banks are now offering construction-to-permanent mortgage loans directly to buyers. These loans finance both the construction phase of a project and the permanent mortgage in a single closing.

Construction-to-permanent loans offer distinct advantages for borrowers and builders. For example, buyers needn’t assume the full cost of the project at the start: Instead, they make interest-only payments through the construction phase.

For builders, construction-to-permanent loans mean they don’t need to finance the project or overburden credit lines and risk delays due to funding snafus. A series of disbursements from the lender ensure that expenses are met, workers are paid and subcontractors and materials are covered.

Additionally, since homebuyers can obtain financing at more favorable rates than builders, buyers reap financial rewards by financing the project, instead of having the builder do it. Construction-to-permanent loans also allow buyers to lock in a rate at the start of construction, which can be advantageous if rates are expected to rise over the course of construction. These savings can add up to thousands from the start.

Construction-to-permanent loans also offer other advantages – the simplicity and savings of a single closing. Buyers eliminate the customary “pass along” closing costs incurred when a builder finances labor and materials for a project, or the closing costs incurred with a home equity line of credit after traditionally purchasing and renovating a home.

Furthermore, making interest-only payments during the construction phase (usually 6 to 12 months is allowed) gives buyers a respite from the full loan amount, as they pay interest that accrues only on incurred expenses. Best of all, a construction-to-permanent loan finances the purchase of the property and renovations.

When the project is complete, it automatically converts to a fixed-rate, permanent mortgage with principal and interest, just like a traditional mortgage.

Couple standing in front of their new house.Qualifying for a Construction-to-Permanent Mortgage Loan

While regional banks vary in how they qualify buyers for construction-to-permanent loans, some guidelines are commonplace. For example, loan amounts are determined by assessing the loan-to-value ratio, considering the acquisition cost (purchase of land plus cost of completing the project) or the appraised value of the property as completed. Other requirements may specify the type of home that qualifies for a construction-to-permanent mortgage.

Furthermore, because of the construction nature of the loan, additional documents must be provided by the general contractor prior to loan approval. These include:

  • A final construction contract, signed by the buyer and the contractor
  • A construction costs worksheet, provided by the bank, completed by the contractor, and signed by buyer and contractor
  • A complete set of plans and specifications
  • Certificates of general liability and workers compensation insurance coverage, as well as state licenses from the general contractor, or from subcontractors if the buyer act as his or her own general contractor

Note: In most cases, banks will only finance construction when handled by a professional general contractor. Buyers must have significant construction experience and/or be actively and gainfully employed in the building trades to act as their own general contractor.

For buyers interested in using a construction-to-permanent mortgage to renovate an existing home or to build from the ground up, hiring a builder with impeccable credentials and a proven record of successfully completing projects is essential.

Some banks will require signed lien waivers from the general contractor and from each and every subcontractor or supplier involved as the project progresses and disbursements are made. This system of checks and balances protects the buyer from future liability. Third-party inspections are also part of the process for many lenders to ensure satisfactory completion of all phases of work.

For buyers who use a construction-to-permanent loan, when the project is complete andthe home they envisioned has become a reality, the sense of accomplishment is tremendous. But that accomplishment is magnified when buyers look around and realize they’ve built exactly what they want, at a price they can live with for many years to come.