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Founded in 1976, Bankrate has a long track record of helping people make smart financial choices. We’ve maintained this reputation for over four decades by demystifying the financial decision-making process and giving people confidence in which actions to take next. Bankrate follows a strict , so you can trust that we’re putting your interests first. All of our content is authored by and edited by , who ensure everything we publish is objective, accurate and trustworthy. Our mortgage reporters and editors focus on the points consumers care about most — the latest rates, the best lenders, navigating the homebuying process, refinancing your mortgage and more — so you can feel confident when you make decisions as a homebuyer and a homeowner. Bankrate logo Editorial integrity
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You have money questions. Bankrate has answers. Our experts have been helping you master your money for over four decades. We continually strive to provide consumers with the expert advice and tools needed to succeed throughout life’s financial journey. Bankrate follows a strict , so you can trust that our content is honest and accurate. Our award-winning editors and reporters create honest and accurate content to help you make the right financial decisions. The content created by our editorial staff is objective, factual, and not influenced by our advertisers. We’re transparent about how we are able to bring quality content, competitive rates, and useful tools to you by explaining how we make money. Bankrate.com is an independent, advertising-supported publisher and comparison service. We are compensated in exchange for placement of sponsored products and, services, or by you clicking on certain links posted on our site. Therefore, this compensation may impact how, where and in what order products appear within listing categories. Other factors, such as our own proprietary website rules and whether a product is offered in your area or at your self-selected credit score range can also impact how and where products appear on this site. While we strive to provide a wide range offers, Bankrate does not include information about every financial or credit product or service. If you’re familiar with , you know that they can provide a path to homeownership for buyers who otherwise may not be able to qualify for a mortgage. What you might not know is that these loans can also help you build a new home or renovate one you plan to buy. An FHA construction loan combines the advantages of a traditional — namely, more relaxed lending requirements than a conventional mortgage — with the benefits of a short-term , which can be harder to qualify for and tends to require a higher credit score, a lower debt-to-income ratio and a larger down payment than even a conventional loan. What is an FHA construction loan
FHA construction loans allow you to roll the costs of building or renovating a home into an FHA mortgage loan. The construction loan, backed by the Federal Housing Administration, covers expenses including the , building materials, construction work and permitting fees. Just like a traditional FHA loan, these loans make it possible to build a home with a down payment as low as 3.5 percent or a credit score as low as 500. Types of FHA construction loans
FHA construction-to-permanent loan – This finances the ground-up construction of a new home. It combines the features of a short-term construction loan with those of a regular FHA loan, providing access to cash upfront to purchase land and build a home, then converting to a permanent mortgage once the construction is complete. FHA 203(k) loan – An , also known as a mortgage rehabilitation loan, finances the renovation of a home, usually a fixer-upper. This loan allows you to purchase an existing home and remodel it, or renovate a home you already own, through a single mortgage. There are two types of 203(k) loans: the standard 203(k), which is generally for financing larger renovation projects costing $35,000 or more and requires the use of a ; and the limited 203(k), which covers minor remodeling and non-structural repairs costing up to $35,000. You can work with a 203(k) consultant as you progress through a limited 203(k) project, but it’s not required. How do FHA construction loans work
For either type of FHA construction loan, you’ll first need to apply through an FHA-approved lender. You can find a list of through the U.S. Department of Housing and Urban Development (HUD). After the lender determines what you qualify for, you’ll choose a contractor for the project. Your lender will need to approve all of your contractor’s plans before you can close on the loan. After closing, you can begin the construction or renovations. Note that with any FHA loan, including a construction loan, you must pay premiums. These include a one-time upfront premium, which is 1.75 percent of the amount of the loan, plus an annual premium that varies and can be paid in monthly installments. How FHA construction-to-permanent loans work
With an FHA construction-to-permanent loan, you obtain both the construction loan and permanent mortgage at the same time. In turn, you only need to close on the loan once. It starts out as a short-term construction loan, and once the construction phase is complete, it kicks over to a mortgage to finance your home. Before you can proceed with a construction-to-permanent loan, your lender will need to sign off on the contractor you choose. Once the contractor is approved, you’ll be put on a draw schedule for the loan based on the different phases of the project. During construction, you might only be required to make interest payments. Once construction is complete, the lender converts your construction loan to a permanent mortgage, usually with a 15- or 30-year term. Then, you make payments on your mortgage just like a regular home loan. How FHA 203 k loans work
The standard 203(k) loan is reserved for projects that cost a minimum of $5,000. It requires you to work with a consultant — you can locate one via HUD’s . In contrast, there’s no minimum on a limited 203(k) loan, and it’s designed for smaller renovations. It can’t be used for major repairs, including ones that take more than six months to finish or require you to vacate the home for more than 15 days, or require you to pay the contractor more than two payments. FHA construction loan requirements
FHA construction loans have the same standards as FHA purchase loans, but with a few additional requirements. To qualify for any FHA loan, you must: Have a credit score of 580 or higher (or at least 500 if putting down 10 percent) Have a debt-to-income (DTI) ratio of no more than 43 percent (although there might be some flexibility here) Make a down payment of at least 3.5 percent (or at least 10 percent if your credit score is lower than 580) Ensure your desired loan amount does not exceed If you’re looking for an FHA construction loan, you must also provide documentation showing you’ll be working with a licensed contractor. For a standard 203(k) loan, you’ll also need to work with an approved 203(k) consultant. In addition, for any kind of construction loan and project, you must be prepared to submit the plans to your lender for review. Pros and cons of FHA construction loans
Pros
Accessible to lower-credit borrowers – You could have a credit score as low as 500 and still potentially qualify for an FHA construction loan. Lower down payment requirement – Unlike conventional construction loans that typically require 20 percent or more down, you could get an FHA construction loan with 3.5 percent down (or 10 percent down if your credit score is below 580). Ability to buy and renovate (or build from scratch) with one loan – An FHA construction loan can be used to either purchase a home and make renovations simultaneously, or build one from the ground up. Cons
Limits on how much is available to borrow – While they have higher credit and down payment requirements, conventional construction loans allow you to borrow more than what you could with an FHA construction loan. FHA mortgage insurance – All FHA loans, including FHA construction loans, require the borrower to pay for mortgage insurance. Alternatives to an FHA construction loan
There are other types of construction loans— either federally-backed or sponsored by a state or local government — that offer relaxed lending requirements to specific groups that qualify. There are also private construction loans that may offer better terms if you meet the qualifications. Conventional construction loan – Conventional construction loans are available through banks and other lenders. They may be harder to obtain than an FHA construction loan, often requiring a down payment of 20 percent or more, but they can cost less if you have a higher credit score. State and local programs – New construction and home rehabilitation loans may be available for low- to moderate-income borrowers through the local government, nonprofit organizations or local housing authority. Fannie Mae and Freddie Mac construction loans – Fannie Mae offers a few different loan types to help finance new construction and home renovations. These include construction-to-permanent financing for new builds and the for improvements to a home you own or plan to purchase. Freddie Mac’s also provides financing for renovations. USDA construction loan – The U.S. Department of Agriculture administers construction-to-permanent loans to low- to moderate-income borrowers wanting to build a home in an . VA construction loans – Military members and veterans can obtain a backed by the U.S. Department of Veterans Affairs. No down payment or mortgage insurance is necessary, and these loans often offer lower interest rates, as well. Learn more
SHARE: Autumn Cafiero Giusti is an award-winning journalist with over two decades of professional experience. She writes about mortgages, real estate and banking. Suzanne De Vita is the mortgage editor for Bankrate, focusing on mortgage and real estate topics for homebuyers, homeowners, investors and renters. Related Articles