Construction Loans-Back to the Future
For those of you who have been looking for, or attempting to obtain, construction financing, you have probably found the going to be tough.
But, it’s not as tough as it was back in 1972, when I (finally) got my first construction loan, and yes, I was an owner builder!
In my book, “Be Your Own House Contractor” I say that the hardest part of building my 1st house was getting the construction financing. I was humiliated, laughed at, and called crazy by LENDERS!
Back then, you had to have excellent credit, 25% (of total cost) as a down payment (no sweat equity allowed), a detailed estimate of the cost to build, and the loan could not exceed 75% of what the finished home would be worth.
The 25% down had to be in land and/or cash. The land had to be free and clear and in your name before you could be approved for a construction loan.
If you already owned land, your land had to be worth at least 25% of total cost.
If the land was worth less than 25% of total cost, you had to kick in the difference in cash.
Wow, you say! How did anyone ever build, let alone an owner/builder.
It was tough, but I did it. I persevered and finally convinced a local bank I was capable, credit worthy and bound and determined to see the job thru to its end.
It also helped that I was allowed to be creative with the down payment.
You see, back then you could have a friend or investor (hopefully a friend) buy the land, deed it to you, and then subordinate (make second) their interest in the land (called a lien) to the construction lender.
Or, you could have a “gift” of land or cash, and use the gift as down payment.
The overall objective was to lessen the risk of your default to the lender.
But, I got that loan, because, simply put, “Where there is a will, there is a way”.
Well guess what, that’s where we are now (again) in 2009.
Well, almost there. It’s tight, but NOT as bad as 1972.
Today, you can still find financing with as little as 10% -20% down and with interest rates at the lowest they have ever been.
And, land equity (the difference between what the land is worth and what you owe on it) is still allowed to be part or all of your down payment, and many lenders still allow “gift” equity.
Unfortunately, today’s lenders don’t even know what land subordination is and aren’t interested in finding out what it is, even if it lowers their lending risk.
On the bright side, everything in real estate and construction lending goes in cycles, and construction lending will cycle again and loosen up.
But, as lending loosens up, the cost to build will go up, and right now it is the lowest I have ever seen it (based on today’s dollar).
So, either persevere now and find financing or wait and pay more for your house.
If you persevere now, and build now when interest rates are ridiculously low, you can obtain the best of both worlds.
Or, you can try to time it perfectly (good luck with that) and build as the cycle swings and lending loosens up, but before costs go up too much.
How will you know when the cycle begins its swing?
The vast number of foreclosures and foreclosed homes caused (and is still causing) the housing crisis (as well as the Wall Street crisis).
When the number of foreclosed homes diminishes significantly, the crisis will be ending, and the cycle will start to swing.
Right now in many locales, the sale of foreclosed homes constitutes 50% to 75% of all real estate sales! ( There are some incredible buys out there!) Watch those areas closely.
Keep your eye on the housing market. The swing, in my opinion, will be fast and furious. There is a huge “pent up” demand waiting.