As the real estate
market improves, many more people are weighing the pros and cons of building
versus purchasing an already existing home. While the benefits of new
construction, such as choosing finishes or picking the perfect piece of land
are readily apparent, there are many important considerations when deciding to
build. It is vital to your wallet and your sanity to sit down and contemplate
these items prior to deciding on building, as they can often turn into cons down
the road.
1. Financing.
Likely the biggest
consideration in deciding whether to buy an existing house or build a new home
is the cost difference and the funding associated with each transaction. When
purchasing an existing home, you have a set purchase price plus an estimation
of closing costs. A variety of loan options are available, including
conventional mortgages, FHA loans and VA loans. With new construction, you are
often left with fewer loan options.
As a result of the past
recession, many builders will only accept construction financing. This takes
the financing burden off of the builder and places it on the purchasers.
A construction loan
allows the purchasers to buy the land prior to construction and the remaining
money from the loan is disbursed over time to pay for the construction.
Typically, construction loans have variable interest rates, which mean they
will fluctuate over the life of the loan. For example, on a 30-year loan, the
interest rate may start at 2% for the first five years, and then increase over
the remainder of the 30 years. There is usually a cap on the maximum interest
rate for the life of the loan, which is something to consider when looking at a
construction loan. Many construction loans are “interest” only loans for the
construction period, however, there is a maximum length of construction (i.e.
one year).
Most people convert or
refinance the loan, after the construction is complete to a conventional loan
with a fixed interest rate. If you plan to refinance to a conventional loan, you
will have two sets of closing costs, the first on the construction loan and the
second the refinance.
This means you are responsible
for homeowner’s or hazard insurance, taxes, as well as mortgage payments. Make
sure to include these carrying costs and closing costs when budgeting for your
new home, especially as we discuss the next section “Timeframe”.
Some builders still
allow their clients to obtain an “end loan”, which is another term for a
conventional mortgage. The difference is that with a conventional mortgage, you
do not actually own the property until the house is fully completed and you
have a closing with the bank and the builder similar to as if you purchased an
already existing home.
If you have a conventional
loan, you may have to pay some additional bank fees to keep your loan open
throughout the duration of construction. It is important to ask your lender
prior to moving forward if they can estimate those fees. With a construction
loan, you need to consider your monthly expense budget for the construction
loan, in addition to your living expenses for the construction timeframe. This
can be very costly unless you have family or friends in the area that will let
you stay with them. Also, make sure that your anticipated completion date is
well within the lender’s cap on interest only payments, otherwise your monthly
budget could skyrocket if the build runs late
2.
Timeframe.
Let’s start off by
saying that whether you choose to buy a pre-existing home or build from the
ground up, the timeframe is almost always going to be longer than you initially
think. A normal real estate transaction in New York on an existing home generally
takes six to ten weeks from signed contracts to closing. New construction is a
whole different ballgame, as timeframes vary from builder to builder.
Factors that may alter
construction timeframes include the builder’s existing workload and the
condition of the site. For example, if a builder gives you a six to eight month
timeframe, but, he has ten other houses that he is working on at the same time,
you might consider anticipating a ten to twelve month completion timeframe.
Also, when visiting the
site, look around at the surroundings. Are the roads built yet? Does the
builder have to clear a lot of the land before building? These are all things
that you should inquire about as they may tack on additional time. This is
where it is important to work with a knowledgeable local realtor who can advise
as to the current status of the subdivision, including road dedication and
municipal subdivision approvals.
Most importantly,
understand that the construction will likely have delays and there is nothing
you can do about it. Knowing and preparing for this upfront will make it less
stressful when it actually happens.
3.
Contingency Fund, Inclusions
and Upgrades.
The biggest difference
between purchasing an existing home versus building a new home is choosing the
various finishes throughout the home. As I wrote in the beginning of the
article, when you purchase a home you will agree on a set price for the
property and you will have a reasonable estimate of closing costs. When
building home, pretty much the only certain thing you have is uncertainty.
Typically, a new
construction contract price includes a lot of the basics, which are often
outlined on the builder’s “spec sheet”. The spec sheet is usually a couple of
pages long and will list out basic items like “kitchen cabinets” or “carpet on
second floor”. It is absolutely impossible to determine what you want to
upgrade and develop and upgrade budget from a spec sheet. The best thing to do
is to set up a meeting with your builder and go through each item to determine
whether you want to upgrade or stick with the included item.
After you have a
discussion with your builder, you should be able to set a reasonable upgrade
budget. My advice is to take the budget and double it. Then take 50% of your
original budget and put that in reserve as your contingency fund. In the event
you budgeted properly, you can always take the additional funds and put them
towards the principal of your mortgage, or use it to buy furniture and other
furnishings. Better to plan for too much, then not enough.
Example of a budget:
Increase Porch Size: $2,500-$3,000
Add Quartz Countertops: $5,000-$6,000
Add Hardwood Flooring: $4,500
Change Plumbing Fixtures: $2,000
Tile Shower: $1,000-$1,500
Total: $17,000 x 2 = $34,000
(Budget)
$17,000
/ 2 = $8,500 (Contingency Fund)
Once you have
calculated a budget and a contingency fund, you need to determine where these
funds will come from. Many people add a portion of their upgrade budget to
their mortgage amount, and leave the rest of their budget to come from cash
savings.
If you know of certain
upgrades (especially the larger ones), you may want to include those in the
purchase price. For example, you know you want to upgrade the siding, add a
deck, and upgrade the kitchen for a total of $30,000. If you add this amount to
the purchase price, you will increase your loan amount, and therefore, will
have more money to use from the bank for these upgrades.
However, you need to
consider that any increases to the purchase price will also increase the amount
you need the property to appraise for. So, if the purchase price is $300,000,
and you add $30,000 in upgrades, you will now need an appraised value of
$330,000. You should consult with your loan officer prior to adding in these
upgrades, and also consider whether you have the funds available for these
upgrades in the event the house does not appraise for the value including those
upgrades.
For example, the
building plan shows a small front porch which you want to expand. Clearly,
there will be an additional cost for the expanded front porch. Only after a
conversation with your builder, will you have a realistic idea of the cost of
this anticipated upgrade. Included on the spec sheet might be “front door”.
However, you do not like any of the options available to you, and this results
in an unanticipated upgrade.
Also, there are many
items left off the spec sheet that you may not even realize until you actually
get to that point. Lighting, appliances and driveways are a few general
examples of items often not included on a spec sheet which can easily result in
additional expenses that you are not prepared for. This is why you should have
a contingency fund.
4.
Communication.
Simple rule: you would
not marry someone with whom you could not communicate, so do not contract with
a builder who does not answer your phone calls. You are paying for a service as
well as a product. Communication throughout the duration of construction is a
key factor in ensuring your finished product is exactly what you are expecting.
If you have a builder who wants to significantly limit your ability to visit
the construction site, this is a red flag. While some limitations to visits are
understandable for liability reasons, the builder should want you to visit
regularly to oversee the process and point out any issues or discrepancies
while they still have the ability to fix them.
Prior to committing to
a builder, you should discuss the importance of communication and the best
means for contact. Also, set up a meeting schedule with the builder as major
items get completed. By doing this, you are avoiding walking into the home as
it nears completion and realizing there are major issues such as flooring,
layout, etc., that are costly to fix.
5.
Punch List Items.
When purchasing an
existing home, you are already prepared for the fact that the house is not 100%
what you had envisioned. Most people who decide to build a house think that
they are going to end up with a perfect rendering of their dream home. This is
a common misconception that often leads to extreme frustration and is the
direct result of many shows on HGTV. It is important to understand that you
will not receive a computerized 3D rendering of your home beautifully decorated.
Instead, you will get to look at a variety of options, mostly on paper, and
hope that once put together, they will look amazing. Obviously, this not always
going to result in the same picture you have in your head.
My advice is to do a
lot of research on websites like Pinterest and Houzz. Give yourself an idea of
what a kitchen with white cabinets, white counters, and a gray backsplash will
look like prior to settling on those selections. Even though you will not have
an exact picture of the finished product, at least you will have a better idea
of what those combinations look like. Also, go with timeless selections as
opposed to what is trending. Remember, you are building a house which means you
will likely be in this house for quite some time. When you pick timeless items,
you eliminate the need to “update” the property in just a few years.
Most importantly,
remember that your new home will not be perfect. Prior to the house being
completed, walk through the house a few times with a camera and a notepad. Jot
down and take photos of any issues you notice, like chipped drywall, scratched
floors, missing molding, crooked fixtures, etc. Send a preliminary punch list a
couple weeks prior to the house being completed to avoid having multiple
contractors in your house while you are trying to move in. Be prepared to find
more things as you move in. Again, note each issue, snap a picture and keep the
communication open with your builder.
After all is said and
done, choosing to build a house is like choosing to go on an amazing journey
full of ups and downs. At the end of the day, you will have your “almost”
perfect dream home to cherish with your family for many years to come. The most
important advice I can give is to make sure you retain the services of a
competent local attorney who can help guide you through the initial stages of
contract review, loan options and closing. This will make the complicated
process of building a home just a little bit easier and less stressful.
Interested in buying new construction, please contact The Law Office of Elizabeth K. Cassidy at 845-987-7223.
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