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Buying a newly constructed home is an exciting experience. You get to pick out all the finishes and customize the home to your liking. However, financing new construction can be tricky. That’s where FHA new construction loans come in.
FHA new construction loans make it possible to buy land, finance construction costs, and get a permanent mortgage all wrapped up in one loan. This saves you time and money compared to getting separate construction financing and a permanent mortgage.
In this comprehensive guide, we’ll cover everything you need to know about FHA new construction loans, including:
What is an FHA New Construction Loan?
An FHA new construction loan is a mortgage insured by the Federal Housing Administration that lets you build a home from the ground up or make substantial renovations to an existing property.
There are two main types of FHA new construction loans:
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FHA Construction-to-Permanent Loan This loan lets you purchase land pay for construction costs and secure permanent financing in a single transaction. Once construction is complete, the loan converts to a traditional long-term mortgage.
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FHA 203(k) Loan: With this loan, you can buy and renovate a home or refinance your current home and include renovation costs. The 203(k) comes in two versions – the Standard 203(k) for major renovations and Limited 203(k) for minor updates.
The main benefit of an FHA new construction loan is that it combines short-term construction financing with long-term permanent financing This lets you avoid the hassle and fees of obtaining two separate loans
FHA New Construction Loan Requirements
To qualify for an FHA new construction loan, you must meet certain credit, income, and down payment requirements:
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Credit Score: At least 500, but 580 or higher recommended for lowest down payment option
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Debt-to-Income Ratio: Maximum of 43-50% depending on credit history
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Down Payment: Minimum of 10% if credit score is 500-579, or 3.5% if 580+
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Loan Limits: Varies by area but typically up to $726,525 for single family home
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Mortgage Insurance: Required (upfront fee of 1.75% of loan amount + annual fee of 0.45% – 0.85%)
Meeting these requirements is essential, but the lender will also want to see you have enough cash reserves. Expect to need around 10-20% of the construction costs available.
How Does an FHA New Construction Loan Work?
The FHA new construction loan process involves several key steps:
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Get Pre-Approved: Work with an FHA-approved lender to assess your finances and get a pre-approval letter. This confirms you meet the minimum requirements for the loan program.
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Find Land and Choose a Builder: Once pre-approved, you can purchase land or identify land you already own to build on. Then select a licensed general contractor.
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Complete Loan Application and Get Appraisal: Provide all required documentation for full underwriting. The lender will order an appraisal to value the property as-completed.
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Close on Mortgage: If approved, you’ll close on the construction-to-permanent loan. A portion will be placed in escrow and disbursed in draws during construction.
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Draw Funds During Construction: As work is completed in phases, your contractor will request draws from the escrow account to pay for labor and materials.
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Construction Completes: Once the home is finished, the lender will conduct a final inspection. Any remaining funds will be disbursed.
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Convert to Permanent Mortgage: Within 60 days of completion, the lender converts the loan to a traditional fixed-rate mortgage. You begin making principal and interest payments.
Pros and Cons of FHA New Construction Loans
Pros
- One loan for land purchase, construction, and permanent financing
- Lower down payments than conventional loans
- More flexible credit score requirements
- Interest-only payments during construction
Cons
- Require mortgage insurance premiums
- More oversight and regulations than conventional loans
- Limited availability and harder to find than standard mortgages
- Can’t do much of the work yourself
While FHA new construction loans offer nice perks, the extra red tape and limitations may make other loan programs a better fit depending on your scenario.
Alternatives to FHA New Construction Loans
If an FHA new construction loan doesn’t work for you, here are a few alternatives to consider:
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Conventional Construction Loans: Offered by private lenders and often require 10-20% down with stricter credit score requirements. May be easier to qualify for than FHA.
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VA Construction Loans: Offered to qualifying military members and veterans. Feature 100% financing in some cases.
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USDA Construction Loans: For building in rural areas and also feature 100% financing options for low/moderate income borrowers.
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Renovation Mortgages: Fannie Mae HomeStyle program allows 3% down for renovations on existing homes. More flexibility than 203(k).
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Home Equity Loan: If you have equity available, a home equity loan or line of credit can provide funds for renovations.
Talking to an experienced loan officer can help you identify the best loan program for your specific home construction or renovation project.
Finding the Best FHA New Construction Loan Lender
Choosing the right lender is key to getting a smooth FHA new construction loan process. Here are some tips for picking the best lender:
- Look for an FHA-approved lender with strong customer reviews and ratings.
- Ask about their experience with construction lending and 203(k) loans specifically.
- Inquire about their draw process and how they manage disbursements.
- Compare interest rates and fees to find the most competitive pricing.
- See how quickly they can close loans and their responsiveness throughout the process.
- Look for flexibility on things like rate locks during the build phase.
Getting quotes from multiple lenders is wise to find the best fit for your loan scenario.
What Are Current FHA New Construction Loan Rates?
FHA new construction loan rates fluctuate daily based on market conditions just like rates for traditional mortgages. Currently, rates for 30-year fixed-rate FHA loans are averaging around 6.5%.
However, many lenders offer lower rates with “discount points” that let you buy down your rate by paying a fee upfront. Rates tend to be slightly higher for cash-out refinance or renovation loans.
The best way to see current rates is to get quotes from multiple lenders. This lets you compare pricing side-by-side. Getting pre-approved also gives you a more accurate view of the rate you’ll qualify for.
The Bottom Line
FHA new construction loans make buying or building a new home more affordable by combining construction financing and a permanent mortgage into one loan. While they come with more requirements than conventional loans, the low down payments and flexible credit policies are a major perk.
If you think an FHA new construction loan may be right for your project, the next step is talking to some lenders and getting pre-approved. This will allow you to confirm the actual rate and terms you qualify for. Then you can decide if using an FHA loan for your new construction or renovation plans makes sense.
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- An FHA construction loan is a type of FHA loan that covers the cost of building a home, including the land or lot purchase, building materials and labor.
- There are two types of FHA construction loans: an FHA construction-to-permanent loan and a FHA 203(k) loan.
- FHA construction loans can be rolled into an FHA permanent mortgage.
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.
FHA One Time Close Construction Loan Explained 2024
FAQ
Can an FHA loan be used to build a house?
What credit score do you need for a FHA construction loan?
When a buyer finances a newly built home with an FHA loan, what does the FHA require the builder to do?
What credit score is needed to build a house?
Do I need an FHA construction-to-permanent loan?
The one you’ll need depends on whether you’re building a home or buying an existing home that needs renovations. An FHA construction-to-permanent loan covers the costs of buying land and building a home. Once the construction of your home has finished, your lender converts the construction loan to a permanent loan.
What is an FHA construction loan?
An FHA construction loan is a mortgage that allows you to roll in the costs of building a home or renovating an existing property. There are two types of FHA construction loans: The FHA construction-to-permanent loan allows you to build a home from scratch. You can use it to buy land, finance construction costs and cover lender fees.
Can you get an FHA construction loan with a low credit score?
An FHA construction loan can help you realize your dream of creating your forever home from the ground up, even if you have less-than-perfect credit. As long as you can make a 10% down payment, you may qualify for an FHA construction loan with a credit score as low as 500. Here’s what you need to know about this unique financing option.
What are the different types of FHA construction loans?
There are two types of FHA construction loans: The FHA construction-to-permanent loan allows you to build a home from scratch. You can use it to buy land, finance construction costs and cover lender fees. This loan combines the features of a short-term construction loan with a standard, long-term FHA loan.