Interest rates on construction loans can very quite a bit depending on the type and size of project, the source of financing, and the security being offered.
Lets go through each of these starting with the source.
Banks and other institutional lenders that provide construction loans will do so at prime plus pricing. If mortgage insurance is involved, then the cost of financing will increase by the premium associated with the mortgage insurance. A great deal of construction financing is provided by private lending sources where the range of interest rate charged is between 8% and 14% depending on other factors.
So basically, right off the bat, there is a the present time a 4% to 5% differential between bank and private mortgage rates in general terms.
If the property being offered for security is free and clear at the time of construction whereby a first mortgage position can be offered for the construction mortgage, then the cost of financing is going to be lower than if the construction loan was registered in a second position. The financing premium from a first to second mortgage registration position is 2% to 4% depending on the project and the lender.
Private mortgage lenders will also typically charge a lender fee on closing which is also is cost of financing that needs to be considered.
Despite the fact that private mortgage construction financing is more expensive than bank or institutional financing, the majority of every home construction loan are financed by private lenders at times due to the more streamlined approach to applying for construction financing and the more predictable draw administration process. The key with bank construction financing in terms of lower interest cost is meeting all the requirements of funding so that you do not incur incremental project costs from delays or cut backs in draw advances which are not uncommon. If there are issues that create additional costs, then you really have to add that into your calculation of the effective financing rate for the overall project.
Banks tend to also want you to be approved by them for the take out mortgage before construction begins. If you end up getting a less competitive long term take out mortgage than what you could have secured from other lenders, then that needs to be added into the true construction cost as well.
The choice of construction financing and building construction loans tends to be a combination of rate and fit with the requirements of the builder or owner and its not uncommon that individuals will choose higher priced options in order to take advantage of the other features and benefits they offer than cheaper money sources are not noted for.
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