The most time consuming and the most important part of the construction project that is commonly overlooked resulting in dire consequences.
The most important concept to get right in a construction project is its budget. Most of us try and use our experience with purchase money mortgage loans and use a simple calculation that goes something like this: Lot costs X dollars and construction costs are Y Dollars, therefore the total cost is X+Y and since I am putting so many dollars down then the balance is the construction loan.
The reality is far from that simple calculation. The first thing to remember is the fact that construction takes time, and when it comes to loans, time is defiantly money. If it takes you 12 months to build, then you have 12 months of interest to pay, typically charged on the amount you have actually borrowed at any one time.
Unlike a purchase money transaction, construction loans include the closing costs in the total acquisition. These include but are not limited to items such as origination fees, title insurance, lender fees, closing agent, insurance and recording fees to name the basic charges.
Last but not least, there is the concept of "Contingency Reserve". This is a reserve amount normally calculated at 5% of the total hard cost of construction. It sits there to cover unexpected cost over runs. This is also cost that needs to be added to the project cost.
Remodeling construction loans are calculated using this method also.
In summery the total cost of the project consists of:
- Soft costs, consisting of: Architectural, engineering, survey, permits, school taxes, utility connection fees and any other fees inured before the actual construction can begin.
- Hard cost of construction, which is basically the actual cost of building.
- Closing costs, including all the costs associated with closing of construction loans.
- Interest reserve, normally calculated as 60 to 70% of annual simple interest of the total loan amount.
- Contingency reserve, which is based on 5% of the hard cost of construction.
- Lot value, is the present value of the property if owned less than a year or acquisition cost, if owned less than a year.
- Inspection fees, which are paid to the inspectors who inspect the progress of the project.
Construction loans are typically made, based on Loan to Value (LTV) and Loan to Cost (LTC) consideration, where LTV is the obtained by dividing the loan amount by the future value of the house and LTC is calculated by dividing the loan amount by the total cost.
Guidelines for construction loans vary and depend on the loan amount and other credit considerations.
At Construction Loan Center we use a number of spread sheets to calculate loan amounts depending on the particulars of project, however we are currently working on a generic calculator that will put on the site to assist our borrowers.
This simple interest only mortgage calculator can be help by calculating your mortgage payments during construction.
Also See the construction loan budget calculator, which will help you calculate the budget.