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Years ago, my husband and I spent several months looking at properties and found that none suited our needs. We made the decision to build a home instead of buying an existing one. While we ended up happy with our choice, we made some mistakes and faced some surprises along the way.
If you’re considering starting the construction process and hiring a builder to help you create your dream home, the lessons we learned might help you be better prepared — and avoid some of the pitfalls we faced during the process. Here are four of them.
1. Loans to construct a home can be harder to get
A home acts as collateral when you get a mortgage, which reduces the risk to the lender. After all, if you don’t pay the bill, your lender could foreclose and sell your house to recover the funds.
But when you borrow to construct a home, the house doesn’t exist yet — and it’s harder to tell how much it will be worth when the build is complete. Lenders also really don’t want to get stuck with a half-constructed home if you run into financial troubles during the process.
As a result, lenders are a lot more cautious about who they’re willing to provide loans to. And that’s especially true right now as COVID-19 continues to cause so much economic uncertainty.
Chances are good you’re going to need a larger down payment to get approved for a construction loan so the lender can minimize the chance the final house will be worth less than they loaned you. You may also need better credit and more assets in reserve (money set aside) than you would to qualify for a standard home loan.
2. The process is going to be more expensive than you think
When you build a home, you’ll have to pay for a lot of additional costs, such as fees for permits and the expense associated with clearing your lot.
You should get a detailed quote up front from your builder, but don’t assume the price that’s been quoted is definitely the final price you’ll end up paying.
Most quotes include some “allowances,” which means you’re allotted a certain amount of money for things like lighting or kitchen cabinets or digging a well. But there’s a really good chance you’ll end up going over on some of these things. In our case, we went over on most of them, which added tens of thousands of dollars to the final cost of the home.
To make sure you don’t end up financially unprepared for added costs, plan for your home being around 5% to 10% more expensive than the original quote. If you end up staying on budget, you’ll be in a better financial position than you thought. But if you go over, you won’t end up with a property that’s priced too high for you to comfortably afford.
3. The appraisal process is complicated on a home that’s not yet constructed
As mentioned above, your home is supposed to serve as collateral for your loan. That means the lender wants to make its best assessment of whether the home will be worth enough after construction to guarantee the loan.
To do that, an appraisal has to be done on a house that doesn’t yet exist. Your builder will prepare a detailed document with the blueprints and home specifications and an appraiser will assess the home’s likely worth based on it. This can be a more complicated, expensive, and time-consuming process than a traditional appraisal.
Once your home is actually constructed, there will likely be another appraisal — this time based on the finished product. There may be times when your house doesn’t appraise for as much as expected in the end. In that case, you might have to bring more money to closing or get stuck paying private mortgage insurance (PMI) if your loan-to-value ratio drops below 80%.
This is another reason to build a home that costs less than you think you can afford.
4. It may take longer than anticipated for your home to be done
Your builder will likely give you an estimate of how long the construction of your home will take. But be aware this is an estimate — it’s generally not a guarantee. Many different factors can cause a delay in the construction process, and it could end up taking much longer than anticipated for your home to be built.
In our case, a combination of poor weather and changes we made during the build ended up extending the time to construct our home from the projected nine months to closer to two years. This didn’t matter for us because we had another property to live in that we didn’t plan on selling anyway. But if you’re carrying two mortgages (one on your current home and one on the new build) or are renting while your house is being built, this could be a serious issue.
You may want to include a clause in your contract requiring your builder to be finished by a certain date — if your builder agrees. Even then, however, there will likely be exceptions for unusually poor weather or other problems. It’s a good idea to anticipate a longer timeline and have a plan for what to do when that happens to make sure you aren’t caught unprepared.
None of these things are reasons not to build, necessarily, if constructing your own home is something you want to do. But you need to understand the risks going into the process, otherwise these surprises could end up leaving you regretting your choice.