What is a VA Construction Loan?
A VA construction loan, which is similar to other types of construction loans, is a short-term loan that covers the cost of building a house.
A VA loan is used to purchase a home. You borrow the amount you need and then repay it with interest over a specified term. A VA construction loan allows you to pay the amount through a series “draws”, which are funds that are drawn as the various parts of the construction process are completed.
A VA construction loan can be used to finance both the purchase of land or lots and the construction of the home. In many cases, closing costs may also be covered. You may not be required to make a down payment depending on your situation. You will only be required to pay down money if the appraised value is greater than the price.
There are two types of VA construction loans available:
- Construction-to-permanent or one-time/single close loan – With a construction-to-permanent loan, one loan covers the cost of the project, and then converts to a “regular” mortgage to repay what was borrowed. This arrangement allows you to only complete the paperwork once and pay closing costs once.
- Construction-only loan or two-time loan – A construction-only loan or two-time loan will pay for construction. However, once the project is completed, you will need to borrow another loan to repay the loan. You will need to go through two loan closings.
VA construction loan requirements
There are many requirements to be eligible for a VA loan. The first is working with a VA-approved lender. Other eligibility criteria are:
- Certificate proving eligibility – To obtain a Certificate Of Eligibility (COE), you will need to file an online application or send a VA Form 26-1880 to the local VA office.
- Credit score Although there is no minimum credit score required by the VA, you may need to meet certain minimum requirements from any lender you deal with. This means that you need a credit score of at minimum 620.
- Your debt-to-income ratio (DTI) – To get most VA loans you will need a DTI below 41 percent. However, there are some circumstances that this requirement can be waived, such as if you have tax-free income. You will also need to prove that you are able to pay your loan payments using your residual income. This is the amount you have left over after paying off other debts.
- Funding Fee – Although you do not have to pay mortgage insurance to get a VA loan you will be required to pay a funding charge. The funding fee amount is determined by how often you have used a VA loan and your down payment.
- Construction plans To get an appraisal and submit your plans for construction to the lender. You will also need to obtain a VA property certificate before you can proceed.
- Builder approval You will need to use a VA-approved lender. The builder must either be already registered with the VA, or register and get approval from the VA.
- Warranty – A minimum of a one year warranty from the builder is required or an insured 10-year plan.
Once you have met all the conditions and are approved for a loan, a VA inspector will monitor the progress of your project. The inspector will inspect the work as it is completed and approve any additional draws that are necessary to cover the costs.
What can I do with a VA construction loan to build?
VA construction loans can only be used for a single-family residence. These loans are not intended for multi-family housing. You can customize the home but don’t do anything that is too unusual. It is important that your home matches the style and size of other homes in the neighborhood. This is also true for the lot size. When you build, make sure it is the same size as other homes in the area.
VA construction loan vs. construction loan
A regular construction loan generally has stricter underwriting requirements. These include stricter credit scores and DTI criteria. To get a regular loan, you will likely have to make a large down payment.
A VA construction loan doesn’t require you to make a downpayment and allows you more flexibility in your credit requirements. It can be more difficult to obtain a VA construction loan for some veterans than to qualify to borrow regular construction loans.
VA construction loan rates
The rates for construction loans are generally higher than those for mortgages used to purchase an existing house. Because a mortgage is a secured loan, your home is the collateral. If you default on your payments, the lender can recoup their losses by selling the collateral. This option is not available to lenders with construction loans. The home is still under construction so the lender assumes more risk and sets rates accordingly.
It is important to note that each lender sets its own interest rates for VA Construction Loans; the VA does not determine rates. Rates advertised by lenders can change several times per day.
Pros and cons of VA construction loans
- You may not require a down payment
- There is a possibility that the funding fee could be waived for some veterans, including those with service-connected disabilities.
- No mortgage insurance
- Can closing costs be rolled into the loan?
- Income and credit criteria are not as strict as they used to be
- Both the lender and the builder must be VA-approved
- Appraisals can be longer for some clients.
- Closing costs may be higher because of funding fees and other expenses
- A cost barrier can be the funding fee
- Rates for construction loans are usually higher
Is it difficult to obtain a VA construction loan?
There are not many lenders that offer VA construction loans. This can make it difficult to find one. VA construction loans don’t require a downpayment and have more relaxed requirements for borrowers. VA construction loans have special property requirements. Your lender may also impose additional requirements or overlays that could make it harder for you to qualify.
Where can I find a VA loan lender?
Some VA loan lenders may not also be VA construction loan lenders. A lender may offer a VA loan to purchase a home, but not for the construction of a new home. Visit the VA website to find a list with approved lenders for VA construction loans. This is a list that includes some brokers or lenders who offer this type loan:
- American Financial Resources
- CHM Lending
- GO Mortgage
- Security America Mortgage
- University Lending Group (University Bank).
- VA Nationwide Home Loans (Magnolia Bank).
Because there are many steps and qualifications involved in VA construction loans, it can be advantageous to work with a lender who has had experience. Compare rates and terms among lenders before you accept a VA loan offer.