Have you been dreaming about building your own home? Many do, especially those that are nearing retirement and considering building their dream home with all the features and upgrades that they have always wanted. Or maybe you want to renovate your current home to make it more suitable to your changing lifestyle. Whatever the case, how do you make this happen when you are seeking a “Construction Loan” from your bank.
Construction Loans at the banks are not an easy proposition, and for anyone who has gotten one in the last few years – they will probably be able to attest to how tedious and difficult the whole ordeal was to work with a Canadian Bank these days. But building a dream is always worth it in the end, so lets look at what the banks will ask you for.
When you are doing a major renovation or building a home the banks want to do a Construction Draw Mortgage. This is a loan that is initially approved for the entire mortgage amount needed, however only advanced in stages as the work is completed. The payments are made by the borrower for only the outstanding balance as the project goes along and most payments are setup as interest only until the project in finished. A Draw Mortgage can have up to 10 draws but most banks prefer to only offer 3-5 in order to keep administrative and appraisal costs down.
You must provide to the bank a detailed construction plan, drawings, permits, and cost schedule. If you are building brand new, the bank will also probably require you to own the land free and clear (without a mortgage) since the first draw will be based on the land value at 65%. You must keep in mind that the banks usually only provide money after the completion of each stage of construction, so that means you may need to have cash assets to draw on in order to start the project. Let’s look at an example.
If you were building a home for $500,000 and the land value was $200,000 – the total value upon completion would be $700,000. The banks would therefore only provide a mortgage for 80% which would be $560,000. You would have to have the balance of $140,000 in cash or at least the full ownership of the land. Most Canadian banks require that the land be owned mortgage free, so that they can take the first draw from the land equity to start construction. In this scenario, a $200,000 land value would net $130,000 at 65%. The $130,000 would then be offered in the first draw to begin construction and the land would be used as collateral. In this example, if the client owned the land mortgage or debt free, they would not have to come up with any additional funds during construction. The bank would advance the other $430,000 as the construction progressed. With this in mind, remember we only needed $500,000 to build, so we have an ample financial cushion should costs increase during the build. Of course please remember that the lender will also want to ensure that you can make the payments on the new mortgage once it is setup at the end of the project so income qualification, credit checks and application approval would also be necessary.
When you are applying for a Construction Mortgage at your bank, please make sure to have an experienced lender who is familiar with the process and has done them before. There will be a lot of future decisions, stress and worry when you are going through the construction of your renovation, and having a bad experience, delays on receiving funds or any surprises from your banker, could leave you with unpaid commitments that only make the whole process feel that much longer.
Keep dreaming, build your dream! Remember to always do your homework before you get started. Interview your banker. Have a well thought out plan and then make it happen!
