Construction Loans vs. Conventional Loans

Can’t find a home that’s checking all of your boxes? Then maybe it’s time to build your own. Constructing a home from the ground up can be an exciting project, but financing it is a little different from taking out a conventional loan. One of the best ways to make sure you get the most out of your construction project is to understand the differences between a conventional loan and a construction loan, as well as the nuances that come with each.

Construction loans and conventional loans may seem similar at first glance because they are both home loans, but they’re used a little differently. It’s important that you apply for the right type of loan for what you need.

Arkansas Federal Mortgage offers construction loans and conventional loans. Talk to one of our home loan experts to learn more about your loan options, and apply online today to lock in your interest rate.

Construction vs. Conventional

Construction loans and conventional loans are both loans that can be used for house purchases, but there are critical differences in how they’re used.

A conventional loan is typically what comes to mind when you think of a traditional mortgage. Mortgages are an agreement between a borrower and a lender (think a bank or credit union) in which the lender gives the borrower funds to buy a home, understanding that the borrower will repay the loan plus interest charges over time. Construction loans work similarly but are instead used to finance construction projects, additions to a home, or construction on a new home.

While the two types of loans are both used to fund your dream home, they function a little differently, both in their use and in the process of obtaining each.

Loan Term

One of the major differences between conventional and construction loans is how the loan is paid out and how long the loan term is.

With a conventional mortgage, a homeowner receives the entirety of the loan funds at once to purchase the home. Conventional loans tend to have longer loan terms – often up to 30 years long – in which you repay the principal and interest.

Construction loans have a draw period where you can use the funds from your loan to finance your construction project in stages. Draw periods for construction loans can vary depending on your lender, but are typically between three and nine months, or the amount of time it takes to complete construction.. 

Once your draw period is over, your loan will be converted into permanent financing, which makes it more similar to a traditional mortgage. The payment period on a construction loan could be up to 30 years but is typically shorter.

Loan Rates

Loan rates can vary based on a number of factors, including your lender. In general, construction loans tend to have higher interest rates than conventional loans because lenders take on a larger amount of risk with a construction loan.

Individual lending institutions set loan rates. They can be determined individually based on the borrower’s creditworthiness. Arkansas Federal offers low, competitive rates on all loans.

Approval Process

To get approved for a traditional mortgage loan, lenders usually require your credit score, debt-to-income ratio, payment history, and a down payment. Construction loans have similar requirements, but they also require additional information.

To get a construction loan, you might be required to have a higher credit score than would be necessary to be approved for a conventional loan. The construction loan approval process can also require that you already have a builder, a construction plan, and a construction budget that your lender can review.

The approval process for a construction loan can be quicker than the approval process for a conventional loan, but it can also be more comprehensive. When applying for a construction loan, your lender will ask in-depth questions about your planned construction project.

Working with a builder who is familiar with the process can help you get approved for a construction loan more easily, as they typically already have the paperwork ready for borrowers.

Apply For a Loan Today

When purchasing a home or completing a project on a home, it’s important to apply for and use the best loan for your situation. Construction loans and conventional loans may seem similar, but it’s important to understand the differences and what they can be used for.

Arkansas Federal offers a variety of loan options to fit all your home buying – or building – needs. Our team is local, trusted, and equipped to guide you through every step of the process. Call us at 800.456.3000 or visit one of our local branch offices to learn more about our home loans and what might work best for you. 

Ready to get started? We’re ready to help. Apply online for a home loan today – it’s quick, easy, and all with a $0 application fee.