VA Lending and Construction Loans

Two construction workers laying cinder blocks.

Some consumers like brand new things. Some consumers like to buy used. For instance, someone likes the aroma of a brand new car that no one else has ever touched while others will balk at buying a new car knowing that the value of that same car devalues once the car leaves the dealership's lot. The very same can be said for home buying. There's a lot of appeal of buying a brand new home.

A new home can be designed by you and your architect from the ground up or built from a set of plans provided by a developer in a particular subdivision. Unlike existing homes, newly built property lets you have more control on the features of the home, even down to the color or the carpeting and the paint on the walls. How can you use your VA home loan benefit to build a home?

The VA and VA Lenders

This is where it gets sort of tricky. The VA does establish construction guidelines for new homes yet VA lenders are reluctant to issue them. In fact, you'll be hard pressed to find any lender to issue a VA construction loan but that doesn't mean you can't use your VA entitlement in the construction process; you can use it in the "permanent" phase, replacing a construction loan.

VA Construction Loan Process

Construction loans are typically short term, just long enough to build the home. At the end of the construction period, the construction lender wants all their money back which the borrower provides by obtaining a permanent mortgage.

The construction process goes in phases and the bank that issues the construction loan assigns an inspector to monitor the progress of the home. At the very beginning the bank reviews the plans and specifications from the builder and determines the final market value of the home. Say that your builder needs $200,000 to build your dream castle. You present your plans and cost estimate to the bank and apply for a construction loan. After the loan is approved, construction can begin. But the bank doesn't exactly hand over $200,000 to your builder. Neither you nor the bank wants that to happen.

Instead, the builder provides a building plan that lists out specific milestones in the construction phase and as each phase is completed, the bank reimburses the builder for the funds or pays out a certain percentage of the initial $200,000 to the builder.

For example, the builder might list that groundwork and foundation represents 10 percent of the project and plumbing and framing is 20 percent. As the groundwork and foundation is completed, the builder asks the bank to send out the inspector to verify the work completed. When the plumbing and framing is completed, the inspector again visits the construction site and verifies the work. The bank then hands a check to the builder for $20,000 or $40,000 depending upon the contract until finally the house is completed.

Interest Payments

Most banks require you to make interest payments to them during construction and some loans let the interest payments accrue during the construction process. Either way, the payments are only calculated upon the amounts made to the builder as they are made. For example, if you get a construction loan from your bank for $250,000 at 5.00 percent, your bank will only charge you interest on the amounts as they are issued to the builder, not on the entire $250,000 amount.

The VA Permanent Mortgage

As the home is completed, the bank will send out the inspector for one last time to issue a certificate of completion. This certificate warrants that the home is 100 percent complete and is ready for occupancy. At this time, the bank wants the original $250,000 plus any interest that has accrued. During the construction process, contact a VA lender and apply for a VA home loan in the amount of $250,000. Your VA loan will be approved in the traditional fashion with paycheck stubs, tax returns and credit scores. At loan approval, your VA lender will order a payoff amount from the bank and wire the needed funds to the construction lender.

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