The Federal Housing Administration’s (FHA) mortgage insurance programs make homeownership more accessible and affordable for many buyers FHA loans allow for low down payments and flexible credit requirements But can you use an FHA loan to build a custom home?
The short answer is yes. You have two options for financing new construction with an FHA-backed mortgage
Purchase a Spec Home with a Traditional FHA Loan
If you find a house already built or under construction by a builder you may qualify for a traditional FHA purchase loan. This works similarly to financing any existing house.
To go this route:
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Find a spec home (built before having a buyer) in a community you like. New constructions by major builders often have model homes you can tour.
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Get preapproved for an FHA loan. You’ll need a minimum 580 credit score for 3.5% down or 500 credit score for 10% down.
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Make an offer and go under contract when you find “the one.”
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Complete the purchase like you would any other home, including an FHA appraisal and closing.
This is the easiest process if you want a new home without the hassle of being an owner-builder.
Use an FHA Construction-to-Permanent Loan
FHA also offers construction-to-permanent loans to finance building a fully custom home from the ground up. This unique loan combines features of a construction loan and traditional FHA mortgage into one.
Here’s how it works in six steps:
Step 1. Get Preapproved
You’ll go through typical FHA preapproval requiring a minimum 500 credit score. This shows the lender you qualify before moving forward.
Step 2. Buy Land
Use the proceeds from the construction loan to purchase a lot you own, are buying under contract, or already own free and clear.
Step 3. Hire a Licensed Builder
Your builder must meet FHA requirements and have proper licensing.
Step 4. Get an FHA Appraisal
An FHA appraiser inspects the plans, land, and materials to ensure they meet guidelines. The appraisal determines the home’s value when complete.
Step 5. Close on the Construction Loan
At closing, you’ll sign documents and pay closing costs. The lender will hold the loan proceeds in escrow.
Step 6. Draw Funds During Construction
As certain stages of construction are finished, the builder requests draws to be paid from the escrow account.
Once the home is move-in ready, the lender converts the construction loan into a permanent FHA mortgage. You won’t have to qualify again or go through a second closing.
FHA Construction Loan Requirements
FHA construction loans have stricter criteria beyond regular FHA loans, including:
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Credit scores as low as 500 are allowed, but under 580 requires 10% down.
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Debt-to-income ratio must be 50% or less.
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The loan amount is capped at local FHA lending limits based on number of units.
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The land cannot be in a flood zone or have environmental issues.
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The builder must be licensed, insured, and approved to work with FHA financing.
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An FHA consultant oversees renovations if using an FHA 203(k) rehab loan.
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You must pay FHA mortgage insurance premiums.
Meeting these requirements ensures the home is built properly and the lender’s investment is protected.
Pros and Cons of FHA Construction Loans
Pros
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Low down payments, starting at 3.5% with 580+ credit score
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Available with credit scores as low as 500
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One loan and one closing for land purchase, construction, and the permanent mortgage
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Loan converts to a traditional FHA mortgage when construction completes
Cons
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Stricter credit and debt requirements than conventional loans
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Must pay ongoing FHA mortgage insurance premiums
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Loan amounts limited by FHA lending limits
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More requirements and red tape than conventional construction loans
Alternatives to FHA Construction Loans
Beyond FHA, other construction loan options include:
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Conventional construction loans from banks and builders
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VA loans for eligible military buyers, including VA construction loans
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USDA loans for low- to moderate-income buyers in rural areas
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State and local down payment assistance programs
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Renovation mortgages like Fannie Mae HomeStyle® loans
FHA construction loan lenders
Finding FHA construction-to-permanent loans and FHA-approved lenders offering these loans can be challenging. Additionally, “Finding a lender that will process these loans quickly, efficiently, and is staffed with a full team is even rarer,” says Mushlin with BuildBuyRefi.com.
To streamline your search, visit the US Department of Housing and Urban Development’s (HUD) website to search for FHA lenders. Although, keep in mind that not all FHA-approved lenders offer FHA construction loans.
When seeking an FHA construction loan, patience and willingness to shop around for the right mortgage lenders is essential. While the process may be more complex than obtaining a traditional construction loan, those who persevere can reap significant benefits. To increase your chances of success, research lenders thoroughly, gather all necessary documentation, and be prepared to provide detailed information about your construction project.
Freddie Mac renovation loan programs
Freddie Mac offers two renovation loan programs: the CHOICERenovation® loan and the CHOICEReno eXPressSM mortgage. The CHOICERenovation® loan is similar to Fannie Mae’s HomeStyle Renovation loan, allowing borrowers to finance both the purchase and renovation of a home. The CHOICEReno eXPressSM mortgage is designed for smaller renovation projects and offers a streamlined process for faster approval and funding.
The Department of Veterans Affairs offers VA construction loans to eligible military service members, veterans, and their families. These loans offer competitive interest rates, no down payment requirement, and no private mortgage insurance. VA construction loans can be used for new construction, home improvements, and even the purchase of land.
USDA construction loans are designed for low- to moderate-income borrowers in eligible rural areas. These loans offer 100% financing, low interest rates, and flexible credit requirements. USDA construction loans can be used for new construction, home improvements, and the purchase of land in designated rural areas.
FHA One Time Close Construction Loan Explained 2024
FAQ
Can you build a house on an FHA loan?
What credit score do you need for a FHA construction loan?
How long do you have to live in a building after an FHA loan?
Can you build a barndominium with an FHA loan?
Should I get an FHA construction loan?
If you’d rather build a home than buy one, an FHA construction loan could help pay for the project. Like a regular FHA loan, this type of financing is insured by the Federal Housing Administration (FHA) and offered by FHA-approved mortgage lenders. Here’s how to get one. What is an FHA construction loan?
Can you build a house with an FHA loan?
With an FHA construction loan, you have the flexibility to buy a parcel of land, build a home from scratch, finance a permanent mortgage on the completed home, or even purchase and renovate a fixer-upper, all with a single loan.
Can I build a home on land if I’m FHA approved?
Once you’re approved for a loan, you can use the proceeds to buy land. Most plots are acceptable, however, FHA construction loan rules don’t allow you to build a home on land if it’s near: 3. Choose a licensed contractor or builder FHA construction loan guidelines require you to work with a licensed contractor or builder.
Can you get an FHA construction loan with a low credit score?
Notably, qualifying for an FHA construction loan might be possible with a credit score as low as 500, provided a 10% minimum down payment is made. There are two types of FHA construction loans and each is designed to make homeownership more accessible, especially for first-time home buyers.