It sometimes happens that while the construction work is progressing, financing problems come up. However much you may have funds in your hand, you are by all chance going to be confronted with this problem. Sometimes it so happens that you will have to hold the construction work. This delays the work. To prevent this, a construction loan will be of help.
A construction loan is a short-term loan, and it has to be repaid only after completion of the construction and its fitness for occupancy.
There are no standard guidelines for the loan. The discretion of the lender and the bargaining power of the borrower decide the terms.
The construction loan rates of interest are where you can make a big bargain. It will depend on the work-in-progress. The completion stage is the criteria. A rate can be fixed between the lender and the borrower, and this rate is generally higher than the normal mortgage loan rate because of the short duration. Usually construction loan rates are variable in nature.
There are provisions for interest-only repayments, some of which for many borrowers are very convenient. However, this may be troublesome for those who have a cash crunch, which is due soon after a construction is complete. But when it is resorted to, such a loan actually benefits the borrower, who has got to pay less by way of interest.
Construction loans can be converted into long-term mortgages. The borrower gets the benefit of additional finance, along with an extended period of loan. However, there is a drawback to this type of mortgage. The lender‘s terms have to be agreed upon for the loan to be continued. If this is not done, you will have to wind up the construction loan immediately, by repaying the whole amount after the construction. As this is of much difficulty to the borrower, who is already in burden, he opts for the terms of the lender, which may be beneficial to the lender only.
To get a relief, the borrower can bargain for a rate lock of interest. The method applied does not allow the rate of interest to rise above a certain level. The rate lock is defined for a period, and this decides the price. Usually it is for a period of 30 to 60 days. Rate locks become a burden when the interest rates outside fall further.
Construction loans make better sense for financing construction projects, and are beneficial to the borrower, unlike many other mortgages.