Everything You Need To Know About Lot and Land Loans

Buying a vacant lot or land to build a home on is an exciting part of the American dream for many people With a lot and land loan, your dream of owning land and constructing a custom home can become a reality However, these types of loans also come with unique qualifications, benefits, drawbacks, and steps in the process that you should understand before applying. This article will provide an in-depth explanation of everything you need to know about lot and land loans.

What Are Lot and Land Loans?

A lot and land loan also referred to as a vacant land loan is financing that allows you to purchase a vacant plot of residential land. It works similarly to a mortgage, with the land as collateral, but the loan is intended for buying vacant property to eventually build on, not an existing home.

Lot loans are for improved land that has access to utilities and roads nearby. Land loans are for raw, undeveloped land without improvements. The loans help borrowers finance the land purchase so they can prepare for future construction.

Lot and Land Loan Qualifications

Since vacant land lacks a home as collateral, lenders view lot and land loans as higher-risk. Therefore, approval standards are stricter than a typical mortgage. Here are some common requirements:

• Excellent credit – Minimum 720 credit score
• Lower debt-to-income ratio
• Large down payment – Typically 20% or more
• Detailed construction plans for the property
• Surveyed land boundaries and utility access
• Approved zoning and land use for construction plans

Meeting these standards demonstrates to lenders you can afford the loan and intend to build on the land as planned.

The Lot and Land Loan Process

The process of getting a lot or land loan involves these key steps:

• Find and select land to purchase – Look for land in the location you want that meets your size and budget needs. Confirm it is zoned properly for residential building.

• Check qualifications – Before making an offer, talk to a lender and ensure you meet the credit, income, and down payment requirements.

• Make an offer and apply – Once your offer is accepted, formally apply for financing. The lender will appraise the land.

• Get approved – If approved, you’ll receive loan terms including interest rates, down payment amount, and repayment structure.

• Close on the loan – Finally, close on the land purchase with the proceeds from your lot loan.

Then you can start designing plans for future construction!

Pros and Cons of Lot and Land Loans

Lot and land loans offer unique advantages but also come with drawbacks to weigh.

Pros

• Design and build a custom home.
• Potentially purchase land at a lower cost.
• Lock in a property site early before home construction.
• Transition later to a construction loan and mortgage.

Cons

• Stricter qualification standards than a mortgage.
• Higher interest rates than a typical home loan.
• Larger down payment requirements of 20% or more.
• Risk of construction delays or permitting issues.
• No existing home to use as collateral.

Assessing these pros and cons will help determine if this type of financing suits your needs and goals.

Interest Rates and Terms for Lot Loans

Lot and land loan interest rates are usually 0.5 to 1 percentage point higher than mortgage rates. On a $200,000 loan amount, this can mean paying $150 to $200 more per month compared to a home mortgage. Lenders view these loans as riskier, so the interest rates reflect that.

Typical loan terms are 6 months to 5 years. Shorter terms require refinancing or construction sooner. Longer terms allow more time for planning. Balloon payment structures are common, with payments covering only interest until the balloon payment of the balance at the end.

Alternatives to Lot and Land Loans

If you don’t want the stricter standards of a vacant land loan, here are a few alternative options to consider:

• Construction Loans – Meant for building a home right away, these will roll into a mortgage after completion.

• USDA Loans – For low-income buyers in rural locations, USDA loans offer affordable financing.

• Seller Financing – The seller finances the purchase directly, which may offer more flexible terms.

• Home Equity Loans – Use equity in your current home as collateral for the land purchase.

Evaluating all your options will help you find the most suitable financing for your situation.

Tips for Getting Approved

Since qualification for lot and land loans is challenging, following these tips can improve your chances of getting approved:

• Optimize your credit score and credit history. Pay down debts and correct any errors.

• Put at least 20% down to meet the typical minimum for vacant land. Save up a larger down payment if possible.

• Seek loan pre-approval so you know your exact budget for the land search.

• Be prepared to document detailed construction plans and have the property surveyed.

• Seek financing from community banks and credit unions that are familiar with land loans.

• Alternatively, look into seller financing if you need more flexible terms.

The Bottom Line

Purchasing vacant land to build a dream home can be rewarding but requires careful planning and financing. Lot and land loans allow you to buy land, but come with stricter approval standards and higher costs than a typical mortgage. Understanding the loan process, weighing the pros and cons, and looking at alternatives will help determine if this type of lending is right for your situation. With the proper preparation, you can make your land ownership and home building goals a reality.