Are you thinking of buying a home? You have multiple options. You can find
a move-in ready home, buy a fixer-upper, or purchase land and build a home from
the ground up.
Building a home can give you a great sense of accomplishment and allow
you to customize your layout and choose finishings to meet your needs. It’s
also a popular option – in March 2019, more
than 1.2 million building permits were issued in the U.S. That same
month, more than 1.1 million housing projects began, and more than 1.3 million
new homes were completed.
That said, building a home isn’t something to rush into. There are pros and cons to having a home constructed specifically for you, and the process of building a home is much different than purchasing an existing one. Read on to learn more and to determine if the financial aspects of building might work within your budget.
You’ll need to work with an entire team of people when you build a
home, from a real estate agent to an architect and from a general contractor to
a land planner. You’ll also need to get a different type of loan when you build
from the ground up, as opposed to purchasing an established property.
One of the first things you’ll want to do is understand how construction mortgages work.
Understand Your Home Loan Options for New Construction
When you buy an existing home, it acts as collateral on the mortgage.
If you have difficulty making payments on your mortgage, the lender has the
option of taking your home.
But when you’re building a home, the collateral doesn’t exist… yet. A
lender is taking on more risk in giving you a loan for construction, as there
might never be a home built on the land. This lack of collateral is one of the
reasons why construction loans differ from standard mortgages.
The way the money gets distributed by means of a construction loan is
different, too. You, as the owner of the land and future home, don’t get the
money. Instead, the lender typically pays the contractor or builder directly
over the course of the project. Many construction loans are “draw”
mortgages. This means the builder gets paid in installments, or draws. Usually,
a lender pays the builder after the completion of certain milestones. For
example, when the builder pours the foundation, they’ll get paid, and when they
construct the frame of the home, they’ll get paid.
Construction loans also differ in length. Usually, the term of a construction loan is much shorter than a mortgage. It might have a term of just one year. At the end of the term, the entire balance remaining on the loan might become due, or it might automatically refinance into a traditional mortgage, provided construction on the home is complete.
Types of construction loans include:
- Construction to permanent mortgage (C2P). This loan begins life as a draw loan, but automatically converts to a traditional mortgage once the home is built.
- Stand-alone construction loan. This loan covers the cost of building the home only. You also need to apply for a mortgage to pay off any remaining debt after construction is complete. With this option, you end up with two closings and usually have to pay closing costs twice.
- Federal Housing Administration (FHA) construction loan. The FHA has a construction to permanent mortgage program. Like a typical FHA loan, the FHA construction loan lets you put as little as 3.5% down. You can also qualify for an FHA construction loan if you have lower than average credit.
Applying for a Construction Loan
In some ways, getting pre-approved for a construction loan is a lot
like getting pre-approved for a traditional mortgage. You need to provide the
lender with proof of your income, proof of assets, information about your debts,
and other financial details. Depending on the type of loan, you might also need
to have at least 20% of the value of the loan to put toward a down payment.
Before approving you for a construction loan, the lender will likely
want to review and approve the builder. The lender will want to make sure the
company or individual who’s going to build your home has a reputation for
completing projects. Lenders also usually want to verify that the builder is
licensed, insured, and has a good credit rating.
Finally, your lender will want to look over the builder’s plans for your home. They’re not going to critique the layout or offer input or advice. Instead, they’re likely to pass the plans on to an appraiser to get an idea of how much the completed house will be worth once finished.
How to Find Land, a Real Estate Agent, and a Builder
The mortgage isn’t the only thing that’s different about building a
home versus buying an existing property. A few steps in the process are also
different. For example, you’ll need to find the land to build your home on, and
you’ll also need to find a contractor or architect to design and build your home.
However, one similarity will be working with a real estate agent. It’s
a good idea to work with a buyer’s agent, even if the house itself doesn’t
exist yet. You’ll want to find an agent who has experience working with new
construction, as they’ll have a better understanding of the ins and outs of
building a home and getting financing, compared to someone who typically works
with clients to find existing homes.
Finding the land to build your home on can be a bit tricky. It’s a good
idea to work with a land planner when choosing the lot or land, as you want to
make sure the plot you purchase can accommodate a home and is zoned for a home
or residential property. They’ll help you decide between buying property in a
new development or subdivision or buying land in a rural, undeveloped area and
educate you on any permits you’ll need to obtain. They’ll also give you an idea
of how difficult it would be to get various utilities, such as gas, electricity,
and water/sewer to the land.
Finally, you’ll want to find a builder for your new home. Choosing a builder is a lot like choosing any other contractor. You’ll want to work with someone who has a strong reputation, appropriate licenses and insurance, and experience constructing the type and style of home you’re looking for.
How Much Will It Cost to Build Your Home?
When considering your budget for building a new home, here are a few standard costs to consider:
- Cost of land. Depending
on its location and condition, the land might be incredibly affordable or
surprisingly pricey. You might purchase a plot on your own, or the lot might already
be owned by a builder you’ve decided to work with.
- Builder’s price. The
builder might quote you one price to build a house based on a particular plan.
If you want to customize or make changes to the basic plan, the cost will
likely go up. Find out what’s included in the price quoted to you by the
builder and if you’ll be responsible for extras, such as the cost of installing
a septic system or prepping for and paving the driveway.
- Design fees. If you’re
working with an architect to create a custom design, you might need to pay a
separate design fee.
costs. Construction costs can include the cost of materials and supplies, as
well as the cost of labor.
costs. You’ll most likely need to hire someone to create a lawn and plant
trees, shrubbery, and other greenery.
- Taxes. Taxes
work a bit differently for new construction compared to existing homes.
Usually, property tax on new construction is based on the value of the land.
After your home gets built, the property will be reassessed, and you’ll pay
taxes on both the land and the building.
- Surprise expenses. It’s
always a good idea to leave room in your budget for surprise costs or hidden
expenses. It’s particularly important to do so when you’re building a home.
Even though you might ask good questions and plan for each stage of your build,
you still won’t know what unexpected costs might come up.
Inspecting Your New Home
You don’t want to skip the home inspection when building or buying a
house. It’s possible for even the newest of homes to have some problems. You’ll
want to be aware of or fix those issues before the builder gets their last
payment and the house becomes yours.
When building your new home, you may need to have several inspections –
such as for the foundation and initial framing structure, plumbing system, and
electrical wiring – throughout the building process. Find out if you’ll be
responsible for arranging these inspections with your local authorities, or if
your builder will be responsible for scheduling the inspections and confirming they’ve
If any changes need to be made to your home’s building plan due to any findings from those inspections, confirm with your builder that these changes have been made and that your home will pass any follow-up inspections.
Pros of Building a Home
Building a new home has a few advantages, especially when it comes to saving money over time. Here are some of the benefits.
1. New Appliances and Fixtures
The most significant benefit of building your own home is that
everything inside of it, from the HVAC system to the roof and the oven to the
windows, will be new. You’ll have to pay for the cost of purchasing and installing
those new appliances and fixtures, but you likely won’t have to worry about
repairing them anytime soon.
However, if anything does go wrong, it’s likely that these items will be covered by a warranty. The warranty should cover the bulk, or all, of the cost of fixing the item for a defined period of time. Knowing that you’re covered, should there be a problem, isn’t just good for your wallet. It can also help to give you peace of mind.
2. You Have More Control Over Energy Efficiency
Newer homes are typically much more energy efficient compared to older homes
or those with older systems and appliances.
When you make plans to build a new home, you can work with the builder to create a home that is as energy efficient as possible. This can mean securing the most modern energy-saving appliances and heating and cooling systems. It can also mean designing the house so that it’s well-sealed and well-insulated.
The type of windows you install in your newly built home also influence its energy efficiency. For example, storm windows reduce heat loss by up to 50 percent.
Other factors that can influence how much energy your new home uses – and the costs of your future energy bills – include:
- The water heater
- The thermostat
- Electronics and appliances
When you build your home, you have the opportunity to evaluate the lifetime energy use of certain features and can decide whether paying a higher price for a more expensive, more energy-efficient product upfront will save you money long term.
3. You Can Build the Home to Your Tastes
When you build a home, you don’t have to settle or live with features and
fixtures you don’t like. You can design the layout to suit your needs and
choose options that match your style.
That’s not to say you’ll necessarily get to have everything you want when you build a home. You might have to adjust your expectations somewhat based upon your budget. But what you will be able to do is make a list of priorities or must-haves and do your best to make sure your new home includes what’s most important to you.
Cons of Building a Home
Although there are plenty of pros when you decide to build your own
home, there are also some drawbacks that might convince you to choose another
1. It Takes Time
In 2017, it took
an average of 6.5 months to build a new home in the U.S.
While you wait for your new home to be finished, you obviously won’t be able to live in it. During that time, you might need to make payments on two mortgages, one for your current home and the construction loan, which can put a strain on your budget.
2. It’ll Be a While Before the
Exterior Looks “Finished”
Existing homes have had time, usually many years, to settle and become
part of the environment. That means any landscaping around an existing house
has had time to grow and flourish. The trees will be more mature, and any
perennial flowers or plants will have had a chance to establish themselves.
When you build your home from scratch, you’ll need to landscape. You can take a few different approaches to this. One is to pay more for mature plants so that the land around your home looks “finished” sooner. Another option is to buy younger, less expensive plants and wait for them to grow.
3. Buying Land Can Be More
Complicated Than You Think
Buying land and building a home can be a more drawn out and complicated
process than it may seem. One thing to consider is how “usable” the
land is. In real estate, land that is in its natural state is known as
“unimproved land,” or raw land. There might not be any electrical
lines, sewage pipes, or other utility connections near the land, meaning
whoever buys it will have to arrange to plug the property into the existing
Buying land isn’t something you want to jump into on your own without
any guidance. Working with a land planner is a must if you want to avoid buying
land that ends up being unusable. A land planner will also give you an idea of
how much work will need to be done to the land to improve it and make it
How challenging it is to “improve” land depends on its location. More remote areas might be tricky to hook up, adding to the expense of your home-building project and potentially adding to the project’s timeline.
Ways to Save on Building a Home
If you decide to build your own home, there are things you can do to help lower the cost of the project. Here are a few ideas.
1. Do Some Projects Yourself
If you’re handy and know how to do other basic construction projects,
there will most likely be some tasks you can handle yourself when building your
home. It’s important to be realistic about your abilities and time, though, and
to know when it makes more sense to hire a professional versus DIY.
For example, you can probably easily tackle the task of painting the interior of your new home. But you might want to leave flooring installation to a professional. You might be okay hanging the drywall inside the house, but are likely to feel more comfortable hiring an electrician to hook up the wiring.
2. Get Your Paperwork in Order
It’s crucial to make sure all of your paperwork is in order – that your
building plans are up to code and that you’re following all of the rules. If
you’re working with a reputable builder or contractor, they should be happy to
work with you and take the steps necessary to “pull” the appropriate
permits. If your contractor shrugs their shoulders or doesn’t seem to know what
permits you need or if you need any permits, it’s a good idea to work with
Before you start building, learn about permitting requirements in the area you plan on building and any areas surrounding it. It might be that a nearby town or county has looser permitting laws or lower costs, meaning you can save a considerable amount of time and money if you buy land and build a house in that area.
3. Do Your Research
Is the building material you choose going to give you the best value,
or can you save money right now or in the long run by choosing something else?
A few minutes of research can translate into thousands of dollars in savings.
Some of the least expensive materials include laminate flooring
compared to hardwood or tile, vinyl siding compared to brick, and laminate
counters compared to stone. Be sure to consider maintenance costs for each.
Along with learning as much as possible about building materials, it can be worthwhile to investigate different sources of materials. Can you purchase reclaimed or secondhand materials that are still high quality, but cost a lot less compared to new items?
4. Build Smaller
You might not need as big of a house as you think. If you’re tempted to
build a 5,000-square-foot home, ask yourself if you’re going to use that much
space. It can also help to compare the cost of building a 5,000-square-foot
home to a 2,500-square-foot home. You might give up a lot of space, but you’re
likely to save a lot in doing so.
Building smaller won’t just help you save money on the cost of
construction. It can also save you money in the long run. It costs a lot less
to heat or cool a smaller home. You’ll also need fewer pieces of furniture when
your house is smaller. As a bonus, a smaller home takes less time to clean than
a larger one, which means you can spend less time and money on upkeep.
When you build a home, one way to make the most of your experience is to make sure you get the mortgage that best meets your needs. We have a variety of mortgage options for homebuyers at PSECU. To learn more about getting a loan to fund your home purchase, get in touch with us today.