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When shopping for your dream home, you could spend months searching all over town for a house that suits you right, only to come up empty-handed and disappointed. Maybe the housing costs in your area aren’t affordable, maybe it’s as simple as you being unhappy with the way each house looks. Some home buyers will purchase a house that looks amazing from the outside, only to find out later that the electrician did a bad job wiring the interior lights, the roof leaks, and there’s a funny smell coming from the basement. However, it’s also some people’s ultimate goal in life to buy an empty lot and build their own house on it. As long and difficult as that process might be, it surely solves the problem of them being unhappy about the way the house looks, doesn’t it?

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So, if you’re a homebuyer who’s interested in undertaking such a project, rest assured that there are ways you can accomplish it. Before you do anything, however, it’s important to realize that a home construction mortgage will require a bit more money and effort on your part than a conventional mortgage on an existing home would. But, if you manage to see the project through to completion, you’ll have your own house looking the way you envisioned it. So, for anyone out there looking to raise their dreams up from the dirt, Loans Canada has a few tips for how you can make that happen.

Buying Vacant Land

When you’re planning to build your new home from scratch, you’ll first have to purchase a vacant lot to build it on. You might even be purchasing a lot with an existing home, tearing it down and building a new one. If you are buying an empty lot, you may need to secure a separate loan to finance the lot. However, you won’t typically have to do this if you’re purchasing the land through a home builder, which we’ll discuss below. Like with most loans, in order to secure a loan for a vacant lot, you’ll need to have a favorable credit score and be making a decent income. Be warned, you will need to make a sizeable deposit on the land itself, sometimes 25-35%. However, you might be able to get a loan from a private lender by opening a personal line of credit, or by opening a HELOC (Home Equity Line of Credit) through another property that you already own.

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If you are planning on buying a vacant lot, it’s extremely important that you take all factors into consideration. This means doing research into the area and making sure you’ll be able to get permission from the local municipality to build there in the first place. How the property is zoned, who it was previously owned by, and how it’s partitioned are also going to be issues that need attending. You’ll need to factor in both the costs and the environmental concerns pertaining to the construction of a drinking water system, sewage disposal system, and other such utilities. These are all just the initial things you’ll need to consider if you’re buying a vacant lot. Then comes the fun part, building the house itself.    

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Buying from a New Home Builder

Buying a home already under construction from a new home builder is an option for those who wish to buy a brand new house, but don’t want to go through the motions of planning and construction themselves. This is common when a new neighborhood or housing community is in the midst of being built. Essentially, you’ll be able to have some say in how the house is going to look, but will be doing a lot less of the grunt work. You’ll still have other responsibilities, such as picking the lot you want to purchase, choosing the layout and the finishes, and what additions to install if any.

Just the same as purchasing a vacant lot, selecting a qualified builder is also important for both your finances and the future of your new home. Make sure that your builder has a good reputation for constructing quality homes. Any legitimate builder will also provide you with a warranty, usually for one year, for their work and the building materials used during the home’s construction. Once you have the warranty, read it carefully so you know exactly what parts of your house it covers. And, with that warranty, most contractors will include a homeowner’s manual so that you can keep up with the basic maintenance of your new home in the years to come.

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How Does a Home Construction Mortgage Work?

As we said above, a home construction mortgage, sometimes known as a “self-build” mortgage, means that you’ll be securing a loan in order to build your own house, rather than mortgaging a home that already exists. Remember, in many cases, building a home from the ground up can end up being more expensive, after you factor in the cost of building materials and the contractors and/or subcontractors you’re likely to hire. If you happen to already be an experienced contractor, you can always design the home and start construction yourself, but chances are you’ll need to hire a team to help you finish it. With that being said, there are two different construction mortgages that you can choose from in order to finance the building of your home. In Canada, you’re able to select either mortgage option, or use a combination of both, depending on your lender’s policies and what province or territory you live in.

The Progress Draw Mortgage

The first mortgaging option for home construction projects is known as a “progress draw” mortgage. This is where the homebuyer will be granted the funds from their lender in installments throughout the various stages of the build until the project is completed or close to completion. During each of these phases, the lender will send a home inspector to the property to review the building progress and make sure that everything is going according to schedule. After each visit, the inspector will submit a progress report to the lender who will grant more funds accordingly. If the inspector determines that the construction is not up to par, the lender might be forced to withdraw their funding. Here’s what you can expect from the four phases of the Process Drawn Mortgage:

  • Phase 1 – “The Foundation Draw” is received when the plot of land is purchased and construction of the home has begun. However, the foundation draw will only be granted when the land has little to no mortgage on it. If you’re still mortgaging the land you’ll only receive your first draw when roughly 30-50% of your house is completed. Therefore you’ll have to cover the costs associated with completing the first 30-50% of your house.
  • Phase 2 – “The Lock-Up Draw” will be received when the home is about 30-50% complete. This means that the foundation is laid and the windows and doors are installed so that you can “lock up” the house at the end of the day. This is the first draw you’ll receive if you’re still mortgaging the land you plan to build on.
  • Phase 3 – “The Drywall Draw” will be received when the home is about 65-70% complete, with the heating system put in and the drywall ready to be painted.
  • Phase 4 – “The Completion Draw” will be received when the house is either completely finished, or very near to completion (90-100%). The electricity and plumbing should be working, all permits and contracts must be signed, and the home is liveable.  

As we mentioned in the previous section, buying a vacant lot to build on is another huge expense in and of its own, so consider this before you decide to choose the Progress Draw Mortgage as an option. You’ll also have to pay a separate fee each time the inspector arrives to review the progress of the construction. The Completion Mortgage

When you’ve secured a “completion” mortgage, it often means that you bought the house through a new home builder and the construction is already finished, or at least ready for you to move in. In this case, the builder shouldn’t expect to be compensated until you take possession of the home. Since your mortgage will only be finalized 30 days before you officially take possession of the house, some lenders will require that you put a down payment on the home. However, unlike the down payment on an existing home, your lender should allow you to pay it in installments. Once the home is finished, which should take around 4 months (most lenders who grant completion mortgages need the home to be completed within 120 days), the completion mortgage itself should simply be needed to pay off the remaining balance to the builder.

Completion mortgages can be appealing to a lot of home buyers because the terms of the mortgage itself won’t be official until 30 days before the buyer takes possession of the house. This means that before the 30-day period begins, home buyers are permitted to make certain changes to their mortgage, such as increasing it to finance whatever extra upgrades they desire during construction. However, before the completion mortgage is finalized, it’s important that the home buyer in question not make any significant changes to their life or credit, such as switching jobs, getting another large loan, such as a car loan, or anything else that strays outside of their lender’s specifications. Deviating from the lender’s guidelines could result in their mortgage being revoked.    

Additional Things to Consider

Firstly, before you decide to try securing either one of these mortgage types and build your own home, it’s essential to know these options are not necessarily available in every province and territory in Canada. Many lenders in Quebec and New Brunswick, for example, do not offer progress draw mortgages. There’s also a lot of preparation you should do before you apply with any lender, such as having your construction plans and blueprints, as well as a contract for the construction and related costs. If you’re doing a self-build, you’ll need to have a quote for building materials and labour. For the lot you’re buying, you’ll need to provide permission from the municipality to build there, as well as a copy of the deed and proof of sale for the property.  

Something else to consider would be how you’re planning to build the home, meaning the way it looks and the upgrades you’ll be installing, if any. While it can be tempting to design your home according to your personal tastes, especially if you’re not buying a semi-completed house from a new home builder, remember that you will eventually have to sell the house. Even if it’s decades before you do so, even if you pass it down to your children, somewhere down the line, the house will go back on the market. For that reason, it’s good to think about what other people might like to see in a house, in order to make it an easier sell. If the house is very big and expensive, for instance, you’ll again be limiting the number of potential home buyers who could afford it. If you decide to paint the whole house bright pink, not everyone will like it. Then, those who are still interested in the house will have to factor in the cost of repainting it.

And, the most important consideration of all? Keeping an eye on both the progress of the build itself and the money you’re putting into it. Prepare yourself financially for any unexpected occurrences that may cause a halt in the construction, as well as any extra fees or repairs that could arise. Just assume that when building your own home from scratch, anything can go wrong, so it’s best to have a backup strategy, even if that strategy means dipping into your savings. Actually, it’s recommended that you have at least 15% of the home’s total cost set aside, just in case anything should happen that endangers the project.  

The Construction Mortgage Process

The mortgage process for the construction of a new home is more complicated and often more expensive than that of a conventional mortgage on an existing home. Not only does building the home take time and effort, but most lenders require more assurances before they’ll start lending you money. For the most part, a high credit score and decent income won’t be enough. Potential homeowners need to provide their lender with proof that the construction of their home will be completed within a certain timeframe. Banks, in particular, will also want to verify that the contractor or home builder in question is certified and has a history of well-built housing projects. If you yourself are planning to act as the contractor, it might make the lender skeptical until you can give them a reason to believe you are adequately qualified to take on a project of this magnitude. This is especially true for progress draw mortgages. Because the house isn’t already built, there is a lot more risk on the part of the lender. If anything should go wrong during construction, they could potentially lose a lot of money. In the event that the borrower defaults on their loan, the lender might have to repossess the property, then try to sell a plot of land with a partially finished house on it.

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Additionally, when it comes to building a home, you’ll have to offer up a more sizeable down payment than a traditional mortgage, usually 25-30%. So, if you’re not completely certain that you’re financially prepared to handle the responsibility of building your own home, it’s best that you take some time to think about it and save up a bit more money. All things considered, building a house from the ground up is risky for both the borrower and the lender and is a project that needs to be thought over well before any ground is broken. However, if you’re looking to build your dream house, don’t let the thought of unfinished projects turn you off the notion completely. If you’re motivated enough and take the time to put together a reasonable strategy for homeownership, there is no reason why you can’t successfully build your dream home from the ground up.

Bryan Daly avatar on Loans Canada
Bryan Daly

Bryan is a graduate of Dawson College and Concordia University. He has been writing for Loans Canada for five years, covering all things related to personal finance, and aims to pursue the craft of professional writing for many years to come. In his spare time, he maintains a passion for editing, writing screenplays, staying fit, and travelling the world in search of the coolest sights our planet has to offer.

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