Q I desperately need your advice concerning a construction loan for my new home that I took out a little more than a year ago. I thought I was going to save money by doing most of the work myself with the help of my family. The term of the loan was for 10 months, and I had to ask for a three-month extension, which has just expired.
In order to extend the loan again, I will have to pay penalties (again) of about $900. Making payments on the land-construction loan and paying rent is about all I make. The home is not nearly complete, and I don’t think it will be complete in the next three months. I told the loan officer at the bank that I was not sure that construction would be completed in the 10-month time frame. She indicated that extending the loan would not be a problem.
Well, now it appears to have become a problem, and the penalties keep growing. To extend the loan, the bank is asking me to pay upfront for the bank’s inspector to come out three times ($75 each) to make sure materials have not just been purchased but installed as well before reimbursement takes place.
I don’t know what the penalties will be for another extension, as there were surprise charges to make the current extension and the rules for accessing the funds keeps becoming more and more restrictive.
I don’t have a lot of money, but I do have excellent credit. My family is wonderful and very attentive to detail … but this slows the process down. The bank and its inspector don’t seem to care about quality, they just want it finished. It was difficult to find a bank that would underwrite an owner-contractor construction loan, and I am afraid I will not find another.
Do you have any ideas on what I can do? We are working as fast as we can, but it is not fast enough for the bank. I am afraid if I contract out too much, I will go over budget.
L.J., Everett
AAs you point out in your letter, most lenders will not provide a construction loan to an owner-builder, because it is simply too risky. Even professional contractors have to prove themselves by building a few houses on time and on budget before they can get loans to build homes on speculation at a reasonable interest rate.
The reason banks are reluctant to loan money to owner-builders is illustrated in your letter. When a bank makes a mortgage loan, it secures a lien against the home as collateral so it can recover its money if the loan is not repaid. With an existing house, the home can be sold at auction if the bank is forced to foreclose and take control of the property.
But in the case of a construction loan, if the bank has to foreclose before the house is finished, it has a serious problem on its hands. It has to complete construction before it can sell the home at auction to recoup its money, so there is a much greater chance of a financial loss. That explains why the bank is charging you penalties for extending the loan. The longer it takes you to complete the home, the greater the potential risk to the lender.
Do-it-yourself builders often underestimate the true cost of building a home, so most owner-builder loan programs require the borrower to budget for the construction as if you were hiring a professional contractor. This ensures that there is enough money in the loan to cover the total cost of construction if you don’t have time to finish the work yourself. I assume that was the case with your loan.
At this point, I would advise you to bring in a contractor to finish the work you can’t complete quickly, because you are getting deeper and deeper in debt with each month of delay. I understand your concerns about going over budget, but your cash flow problem will not cease until the home is complete. You may have to borrow money from your family to pay for this, but once the home is complete, you can refinance at a lower interest rate and ease your monthly cash flow problem.
This letter should serve as a warning to readers who think they can save money by building your own home. Remember, building projects almost always cost more and take longer to complete than originally expected, so be sure to budget accordingly.
Mail your real estate questions to Steve Tytler, The Herald, P.O. Box 930, Everett, WA 98206. Fax questions to Tytler at 425-339-3435, or e-mail him at economy@heraldnet.com.
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