How Are Monthly Construction Loan Payments Calculated?
Many people dream of not only owning their own home, but owning the home of their dreams. Unfortunately, many believe that once they enter “dream home” territory, they’ve entered a realm they simply can’t afford.
Their first instinct might be to look into mortgage loans, but those are meant for buying an existing home. Instead, construction loans offer a borrower-friendly financing option for building a brand-new house—the very same “dream home” we mentioned earlier.
In this blog, we’re taking a look at how construction loans work—including how monthly payment amounts are calculated. This way, you’ll have a better idea of what your construction loan payment schedule might ultimately look like, allowing you to make the best financing decision possible.
What Kind of Loan Is Best for Construction?
In simple terms, a construction loan is specifically intended to finance the building of a new home (rather than financing the purchase of a new home), making it the right option for new construction.
Why Is a Construction Loan a Good Idea?
There are several benefits of funding your project with a construction loan, with the most commonly cited including:
- Get More Flexible Terms: Compared with mortgage loans and other traditional loan types, construction loans offer more flexibility in their terms. This enables you—as the borrower and home-builder—to work with your lender to develop loan terms that meet the needs of your specific project.
- Pay Interest Only During Construction: With a construction loan, your monthly interest payments are calculated and applied based only on what construction funds you draw each month. This offers substantial relief over the alternative, which would be paying interest on the entire loan amount every month.
- Keep Track of Your Project and Payments: While construction loans do feature flexible terms (as described above), they still come with certain guidelines for the borrower. These aren’t meant to add any difficulty to the process. In fact, they do the opposite, as they’re really designed to help keep your project on schedule and within your budget.
- Cover a Variety of Costs: Construction loans can be used in a number of ways. For example, they can be used to help cover the cost of the land you intend to build on, materials, labor costs, permits, fees, and even contingency planning.
These are just some of the most frequently asked questions we hear from potential borrowers. To discuss your specific needs and how a construction loan could help you go from “dream” to “home”, contact our team.
How Do I Calculate Monthly Payments on a Loan?
Giving exact figures here is tricky, but understanding the factors that are likely to impact your monthly payment amounts can help you arrive at ballpark-type numbers. These factors may include:
- Whether you own the property already (refinancing) or are intending to purchase.
- The amount you owe.
- The projected cost—and duration—of the construction project.
- The projected home value (once complete).
- The down payment amount.
- The total loan amount.
- The available or given interest rate.
What Is the Expected or Required Down Payment for a Construction Loan?
Common sense would indicate that a larger down payment should reduce your monthly loan payments, and that is generally true. That doesn’t mean it’s worth over-extending yourself to make a larger down payment than you can really afford or budget for, however.
Usually, you should consider a few factors when zeroing in on the right down payment amount:
- The total projected construction cost, which is usually determined by the builder.
- The total construction loan amount, which you’ll work with the lender to determine.
- The future home’s appraised value, which an independent, third-party appraiser is responsible for assessing.
With a construction loan, the lender typically agrees to loan a certain percentage (95%, for example) of the future home’s appraised value. Then, they’ll suggest a down payment equal to the difference between the approved loan amount and the construction costs.
- For example, if your future appraised value is $300,000 you might be approved for a loan worth $285,000. Then, to calculate an appropriate down payment, you would subtract that loan amount from the projected construction costs. So, if construction is expected to cost $325,000, you would be looking at a down payment of $40,000.
How Do You Calculate Monthly Interest on a Construction Loan?
Monthly interest payments are dynamically calculated, meaning that they vary from one month to the next based on the amount drawn for construction costs in a given month.
- Extending our example from above, if in a given month you draw $20,000 of your $285,000 construction loan. Calculating the monthly interest payment is as simple as applying the loan’s interest rate to that $20,000. If your interest rate is 6.5%, you can expect your monthly interest payment (for that month) to be $1,300.
What Is the Average Construction Loan Interest Rate?
Construction loan interest rates vary from lender to lender, and typically consider specific factors like a borrower’s credit history and creditworthiness, the size of the loan, and the loan’s terms. For these reasons, interest rates for construction loans can be difficult to estimate, but a few things are generally true:
- The interest rates for construction loans are typically variable, meaning they are subject to change over time.
- Compared with mortgage loans and other common loan types, the interest rate for construction loans tends to be slightly (around one point) higher. Since they’re funding a house that hasn’t yet been built, it represents a little more risk (to lenders) compared with a typical mortgage loan.
- You can see IMCU’s current rates here.
Let’s Finance Your Dream Build Today
At IMCU, we’re in the business of funding dreams—and dream homes. Whether you’re just starting to explore the idea of a new build and want to know what kind of loan terms you qualify for, or you’ve got a plan in mind and just need the financing, we’re here to help. We’ll explain your options, so you can make the best decision for your situation and get to building!For down payments as low as 5%, terms up to 30 years, and interest-only payments during the first 12 months of building, we have great construction loans available to meet your needs. Learn more about our construction loan offerings today, use our loan calculators to estimate your loan or payment amounts, or contact us with any questions you might have.