How to use a construction to permanent loan to build your dream home

Save on upfront costs with this one-time close financing tool

If you’re struggling to find a house with the perfect number of bedrooms and bathrooms or a grand outdoor space, you might be in the market to build from scratch. Maybe it’s time to downsize before retirement or you need more room to prepare for a larger family - whatever the reason, a construction to permanent loan may be the financing tool to help you customize your dream home.

What is it?

A construction to permanent (CP) loan is a tool that allows you to finance the cost of buying land (unless you already own the lot), building a home on it, and paying for the home once it’s complete, all within one loan. It’s a unique loan solution that encompasses a construction loan and the permanent mortgage in one, requiring only one set of closing costs.

To qualify for a CP loan:

  • Must be a single-family, detached residence
  • Must be your primary residence
  • Typically requires a 20% down payment
  • Requires an active residential home builder with good experience
  • For a First Federal Bank loan, the lot must be within 60 miles of the Kansas City Metropolitan area

How does it work?

It’s beneficial to consult your lender first to determine the loan amount for which you qualify before completing custom build plans with your builder of choice. The loan amount will fund the purchase of land, construction costs, and the mortgage. Once the loan has closed, the amount borrowed cannot be changed so it’s important to prepare for extra construction fees or change orders because those will be out-of-pocket expenses.

The builder will consult your lender to make each draw, which is a payment taken from the overall loan amount to cover certain milestones within the project. You may or may not be notified about each draw and its amount depending on the construction contract you’ve selected.

During the construction phase, you are only required to make interest payments on the amount drawn. When the home is complete, the loan converts to a traditional mortgage and you will follow a monthly payment schedule, including interest, principal, taxes and insurance, until the balance is repaid in full. Think of it like a regular mortgage plus one year; the first year acting as a buffer to cover construction costs.

Why choose a CP loan?

  1. One-time close: Because a CP loan covers both the construction and mortgage phase, this results in one set of closing costs with less fees and paperwork.
  2. Rate lock: A traditional construction loan typically features a variable interest rate, which can change during the build depending on the market rate. With a construction to permanent loan, you lock in the interest rate as soon as you close the loan so it will not change even when it converts to a mortgage, which could save you thousands in interest payments.
  3. Draw period: The First Federal Bank CP loan requires interest-only payments for the first 12 months during construction, and you are charged only on the principal balance drawn each month. This keeps your monthly payments lower at the beginning, and you will not pay interest on any funds that are not drawn.

Although there are many benefits of a CP loan, there are some drawbacks to consider. Because there is little collateral backing this type of loan, you may be charged a higher interest rate and typically a full 20% down payment is required. In addition, your lender will require inspections or appraisals at various stages in the process, which could incur more upfront fees.

First Federal Bank is proud to be one of the few lenders offering CP loans in the greater Kansas City area. If you’re ready to take the next step or just need more information, contact our construction lending experts today!

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