Everything You Need To Know About Getting A Loan To Buy Land And Build A Home

If you’re looking to build your dream home from the ground up one of the first steps is securing financing to purchase the land and pay for construction costs. Getting a loan to buy land and build a home may seem complicated, but it’s very feasible if you understand the different loan options available. In this comprehensive guide we’ll walk through the pros and cons of various land and construction loans so you can make an informed decision.

Overview of Loan Options For Land and Construction

Here are the main types of loans you can use to buy land and build a home:

• Land Loans – Also called lot loans, these enable you to buy a vacant plot of land. They tend to have higher interest rates and down payments than other loans since the lender doesn’t have a physical house as collateral.

• Construction Loans – These short-term loans cover purchasing the land and paying for all construction costs. Once the home is complete the loan converts to a traditional mortgage. Construction loans have variable rates and require 20% down.

• USDA Loans – Offered by the U.S. Department of Agriculture, these government-backed loans can be used to buy land and build in rural areas. These loans don’t require any down payment.

• VA Loans – Like USDA loans, VA loans are backed by the government and allow zero down payment. Qualified veterans can use these to buy land and build nationwide.

• Conventional Loans – While uncommon, some conventional lenders like banks and credit unions may offer construction-to-permanent loans. These combine features of both construction loans and mortgages.

• Owner Financing – Also known as seller financing, the property owner finances the land sale directly instead of going through a lender. The buyer repays the loan to the seller.

Now let’s explore each of these land and construction loan options in more detail.

Land Loans: Financing To Purchase Vacant Land

If you want to buy a plot of land now and build on it later, a land loan can provide the financing to make the purchase. These loans are offered by banks, credit unions, and online lenders.

Here are some quick facts about land loans:

• Typically require 20% or higher down payment
• Come with higher interest rates than mortgages
• Often have shorter repayment terms of 5-15 years
• Require excellent credit scores of 720+

The main benefit of a land loan is the ability to buy land even if you aren’t ready to build yet or don’t have construction plans finalized. Land loans give you time to sort out construction details without the pressure of building right away.

However, you will pay higher rates and fees compared to alternatives like construction loans and mortgages. And if you fail to build within the loan repayment term, you may need to pay off the land loan or refinance it.

Overall, a land loan makes sense if you want to purchase land now but wait 1-5 years before being ready to break ground. The flexibility comes at the price of higher costs.

Construction Loans: Short-Term Financing For Building Costs

Construction loans are specifically designed to finance building a home. This short-term financing covers purchasing the land and paying all costs to build the home from the ground up.

Typical construction loan features include:

• Variable interest rates, so your rate fluctuates over the loan term
• Require 20% down payment
• Loan term matches estimated construction time frame, often 6-12 months
• Must convert loan to permanent mortgage after home is completed
• Require great credit (680+ score) and stable income

The biggest benefit of construction loans is they allow you to buy, build, and move into your new home seamlessly. You secure a single loan upfront and have one closing versus needing separate financing for the land and then the home. Construction loans also come with lower rates than alternatives.

On the downside, construction loans have stringent approval requirements and you must be ready to start building immediately. And variable rates mean your costs aren’t fixed. Cost overruns can also quickly become expensive.

Construction loans are best for motivated buyers who are ready to break ground and want a streamlined financing solution. Just make sure to budget carefully and build in a buffer for unexpected costs.

USDA Loans: 100% Financing For Rural Areas

If the land you want to buy is in an eligible rural location, USDA loans can be a great option. These government-backed loans help promote growth and development in rural communities.

USDA construction loans offer these advantages:

• 100% financing with no down payment required
• Fixed low interest rates
• Low monthly mortgage insurance
• Can be used to build a home or make major renovations

In addition, USDA loans have flexible credit requirements with minimum credit scores as low as 640. There are also no income limits.

The catch is USDA loans can only be used in rural areas with populations under 25,000. Additionally, the home you build must be your primary residence. And there are flat rate loan limits based on the type of home and county.

For buyers who qualify, USDA construction loans are an affordable path to building a home with little to no money out of pocket. You get to design your dream home while keeping costs in check.

VA Loans: 100% Financing for Veterans

If you served in the military, VA loans are a zero down payment construction loan option like USDA loans. However, VA loans can be used to build a home anywhere in the U.S. – not just rural locations.

VA construction loans offer:

• Zero down payment required
• Competitive fixed interest rates
• Lenient credit score requirements
• No monthly mortgage insurance

VA loans do come with upfront and recurring fees. Loan limits vary based on your county, so you may need a down payment for higher-cost areas. And you must meet service requirements to get a VA loan. Overall though, they provide an accessible construction loan path for veterans and active-duty members.

Conventional Construction-to-Permanent Loans

Although less common than the other options, some conventional lenders like banks and credit unions may offer construction-to-permanent loans.

These combine features of construction loans and traditional mortgages, including:

• Single loan for buying land and building home
• Fixed interest rate for the full term
• Can convert to a longer-term mortgage after building
• Typically require 10-20% down payment
• Minimum 660 credit score

If you can find a conventional lender willing to offer construction financing, it simplifies the process since you get predictable rates plus the flexibility to convert to a mortgage. However, you’ll still need substantial savings for a down payment of 10-20% in most cases. Shop around to see if any lenders in your area provide these construction-to-permanent loans.

Owner Financing: Alternative To Bank Loans

Also referred to as seller financing or contract for deed, owner financing allows the property owner to finance the land directly instead of going through a bank. This can be an option if you struggle to qualify for a traditional land or construction loan.

With owner financing:

• Make loan payments directly to the landowner
• Terms like down payment, interest rate, and timeline are negotiated with seller
• Typically pay higher rates than bank loans
• Contract specifies when title transfers to you

Owner financing works best when you have an established relationship with the seller. Rates tend to be higher and terms less favorable than other options. Require careful review of the contract before agreeing.

But it can provide more flexible qualifying if you have limited finances or credit challenges. Just ensure you trust the seller before pursuing this route.

7 Steps to Getting a Land and Construction Loan

If you’ve decided to pursue a land and construction loan, here is a high-level overview of the process:

1. Check your finances – Review your budget, credit, and savings to decide what type of loan works for you. Construction loans require excellent credit and 20% down. USDA and VA loans allow zero down options.

2. Find the right lender – Research lenders that offer the type of loan you need. Local banks and credit unions are worth checking out.

3. Choose land – Once pre-approved, start looking for and selecting land to purchase in your preferred area.

4. Finalize construction plans – Determine house plans, choose a builder, and get required permits before closing on land.

5. Complete loan application – You’ll need to provide financial documents, permit details, and construction contracts as part of the application.

6. Close on loan – After approval, you’ll close on the land and construction loan together. Read all terms carefully before signing.

7. Build home – Break ground and start working with your contractor to build your new home. The lender will distribute payments during the building phase.

It can take 1-3 months to complete the loan application and closing process before you can break ground. Having all financial and construction details ready in advance helps ensure quick approval.

Things to Keep in Mind When Getting Land and Construction Financing

While getting a loan to buy land and build a home opens up options, there are also