For many buyers interested in building a custom home, the first step is purchasing an empty lot of land to call their own. Financing raw land has challenges compared to buying an existing home. Lot loans create a path for buyers to fund land acquisition that will become their future home site. This guide examines the lot loan process, their benefits and drawbacks, eligibility requirements, and tips for securing favorable financing terms when buying a vacant property lot.
What Are Lot Loans?
Lot loans, also called land loans, are mortgages specifically for financing the purchase of an undeveloped plot of residential land a buyer intends to build a home on within a designated timeframe, usually around 1-3 years.
Since no inhabitable dwelling exists yet, lot loans provide an interim financing solution based on the value of the land. Lot loans take into account future built home value. This allows buyers to secure and start owning the lot while they finalize construction plans.
Once the new home is built, the lot loan can then “convert” into a traditional construction loan or permanent end loan financing the completed home. This dual phased loan structure makes owning an empty lot possible for future custom homebuilders.
Benefits of Lot Loans
Lot loans provide several advantages for buyers:
- Lock in land purchase before prices and interest rates potentially rise
- Finance larger lots that may be unaffordable in cash
- Begin ownership while custom home is designed vs. continued renting
- Buy in desired areas with few existing homes available
- Build without the pressures of owning an existing home simultaneously
- Start establishing equity earlier through owning land outright
By understanding lot loan benefits, buyers can strategically time their custom home journey.
Potential Drawbacks
While lot loans can be a useful tool for purchasing undeveloped land, they also come with several potential drawbacks. Disadvantages to weigh include:
- Higher rates than conforming loans on existing homes
- Likely required down payment of 20-25% of the lot’s value
- Limited ability to lock in rate long-term for future construction
- No home yet to live in during the build stage
- Interest payments on land while paying rent elsewhere
- Time limits requiring you start building within 12-36 months
While advantageous in many ways, lot loans have trade-offs buyers will want to consider.
Lot Loan Eligibility
Eligibility for a lot loan typically depends on various factors, and these criteria may vary among lenders. Qualifying for a lot loan involves:
- Good credit (scores of 680+, lower may incur higher rates)
- Sufficient income and down payment savings
- Clear title free of actual or potential claims by others
- Fully-paid taxes and no liens on the property
- Detailed construction plans with specs and budget
- Building stage timeline 18-36 months from lot purchase
- Future combined loan-to-value after home build under 80%
Lenders want assurance you have the means and timeline to build on the land soon.
Tips for Getting the Best Lot Loan Terms
To secure favorable loan conditions, buyers can:
- Shop multiple lenders including banks, credit unions, and construction lenders
- Put down 25-30% if possible to access better rates
- Seek lenders familiar with the conversion process into construction loans
- Get pre-approved to strengthen offers in competitive land markets
- Ask about discounted points for buying down interest rates
- Look for fixed rates to avoid payments climbing before building
- Seek lenders active in construction lending able to handle future phases
Taking these steps aids buyers in finding the optimal financing package for purchasing and preparing future home sites.
Conclusion
Lot loans enable buyers to strategically finance vacant land acquisitions that will eventually transform into dream homes. By understanding unique lot loan and small business loans requirements and charting the wisest path forward, potential custom builders can lay the literal groundwork to make their visions reality.
