The VA Construction Loan Guide: Everything you Need to Know
A U.S. Department of Veterans Affairs (VA), construction loan may be an option to provide financing to help you build the home of your dreams, as well as the land.
The VA insures this home loan, so you don’t have to pay PMI or private mortgage insurance. There is also no down payment, which can be a problem with traditional construction loans.
This guide will show you how to use a VA loan for a house construction project at a low rate and with a long term.
What is a VA Construction Loan?
VA construction loans can be used to build a new primary residence or purchase land. Once construction is complete, this temporary financing option can be converted into a permanent VA loan.
This loan is not the same as the VA purchase loan, which is used to buy an existing house. Instead, your loan proceeds can be used to purchase lots and for building your home.
If you have any of the following military service backgrounds, you may be eligible.
- Active duty currently (reserve and National Guard members may also qualify)
- Retired without a dishonorable discharge
- Spouse of a veteran who is still living
Other lender requirements may apply, including a qualifying credit score and a debt-to-income ratio. Keep in mind that not all VA lenders offer construction loan options. As a result, you may need to spend more time looking for a lender that is participating.
Notice: VA construction loans may require more paperwork than other VA loans. You must approve the building plan and authorize every loan disbursement to contractors. There are also mandatory inspections during the construction process.
How a VA Construction Loan Works
How to use a VA loan for a home-building project.
Approve a Building Plan
To finalize your financing and building plans, you will work with a VA-approved builder and lender. The process of initial underwriting usually takes between 45 and 60 days.
Two types of VA construction loan lenders might offer different loan options. The type of loan you choose will determine how many closings you have, and when your VA funding fee is due.
- One-time close (single close): A construction-to-permanent loan finances your construction costs and final payment terms with one loan. The VA funding fee must be paid within 15 days from the closing date. Construction can begin as soon as possible.
- Two-time closing: Each loan will have two closing dates. After the building has been completed, the VA funding fee will be due.
The lender will require licensed contractors to finish the house within the time frame given after closing on the construction loan. According to VA guidelines, lenders typically allow 12 months for you to close before they begin collecting your mortgage payments.
Complete Home Construction
For each phase of construction, contractors receive multiple disbursements (also known as “draws”) from the contractor.
Instead of giving you the money, your lender will distribute these funds directly from an escrow account to the builder. This allows financial transparency. Although you are not responsible for managing the money you must give written permission to the lender for each draw.
Multiple draws are a hassle but can reduce your borrowing costs. You won’t receive your entire loan amount upfront. The lender is less at risk because a home that’s under construction has a lower collateral value than an existing home.
Transfer to a permanent loan
After your home passes final inspection, your construction loan can be converted to a permanent loan. You can choose between a VA cash out refinance or a VA purchase loan if you prefer to stay with a VA loan.
VA Construction Loan Requirements
These VA loan requirements must be met before you can begin construction.
- Certificate Of Eligibility (COE: Before applying for a VA-backed loan, you must have a COE.
- Minimum credit score of 620: The VA does not have minimum credit scores. Lenders often require at least 620 FICO scores.
- A low DTI ratio may be required by lenders. This is because lenders might require a DTI of less than 45% or 50%. You will also be eligible for a lower interest rate if your DTI is lower.
- Proof that you have income: To verify your income over the past two years, you may need to provide recent pay slips, tax returns, and bank statements.
- Registered builder – Only VA-registered contractors can complete the work. Lenders may also require that contractors or builders be licensed, bonded, and insured. The VA maintains a list of registered contractors that can be used to help you find them.
- Origination appraisal Your building proposal must meet the VA Minimum Property Requirements and local building codes. To be eligible, this home must be your primary residence and not an investment or second home.
VA Funding Fee and Requirement for Down Payment
The main advantage of VA-backed loans is that you don’t have to make a downpayment in most cases. Mortgage insurance premiums are not required for VA-backed loans.
Instead, you will pay a one time VA funding fee. This is a percentage from the loan amount. A one-time contribution to the loan amount can help reduce your funding fees and lifetime borrowing costs. First-time borrowers will be able to anticipate the following fees based on their downpayment:
- 5% below: 3%
- 5% to 8%:65%
- 10% and more:4%
You may not have to pay this fee until your building is complete. This expense can be added to your loan amount. However, this will allow you to save money upfront and increase your financing fees.
Additional closing costs for VA loans may apply, such as a construction fee up to 2%.
How to Apply and Where to Get VA Construction Loans
These steps will help you find a lender that offers VA-backed construction loans.
Gather all necessary documents
Compile all the income and credit documents lenders may require to complete the underwriting process.
To verify your service status, you can apply for your Certificate Of Eligibility (COE). This will give you an advantage in the application process.
Get loan preapproval
Next, locate a bank or credit union that offers VA loans. The search for a VA lender that offers construction loans is not always easy.
Approval can help you determine your borrowing limit, so you know how much you need to purchase land and build a home.
It is important to compare the rates and terms of mortgage loans from different lenders in order to get the best rate for your project.
Submit Building Plan
After you have found a VA-registered contractor, you can submit your proposal for approval.
The initial VA appraisal will determine your loan limit and determine if you are eligible for a $0 downpayment. It also checks if the property meets minimum property requirements.
Sign closing documents
Once your lender has approved your building proposal, it is possible to finalize your payment terms. This is a great opportunity to determine the total amount of your loan fees and your repayment schedule.
Talk to your lender to discuss how to convert your construction loan into a permanent loan once you are ready to move into your new home. A plan before you start digging can help avoid a stressful financial situation.
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