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The Right Kind of Loan

Choosing the right loan or loans for your building project can seem like a balancing act. Knowing about the basic types of loans may help with your frustrations.

Home balancing act

Make sure you strike the right balance! Securing funds for a home can take different forms depending on what you intend to do.

A bridge loan is a short-term loan to help with the money situation you will have in between closing your new home and your old home. The term 'bridge' refers to beginning the new construction while you are selling the current home. The home you are selling is used as the collateral for the bridge loan. The interest rate is normally a bit higher on these loans. There are also processing and administrative fees included in the loan. For most residential bridge loans, the term is six months or less. If you choose this loan, be sure that you can pay all your loans until the closing on your old home. You will probably be paying your old mortgage, new one, and the bridge loan for at least a couple of months.

Construction loans are for financing the 'construction' of your new home. Most financial institutions will require a construction rather than conventional loan when you are building a new home. They will transform the construction loan into a conventional loan once the home is finished. There usually aren't any fees for this either. With the construction loan, the builder will have the ability to get 'draws' from the bank during the different phases of the construction. They receive one last one at the completion of the home. The amount of draws that are available will depend on the bank you choose and the down payment you make. Most banks will charge a fee for each draw, and some will also charge administration fees and higher interest rates.

Once your new home is done, you will most likely have a conventional mortgage. The typical term on these is 15 or 30 years. A 15-year mortgage will probably have a slightly lower interest rate. Most financial institutions will allow you to buy down your interest rate to a lower rate by paying points up front. Each point costs one-hundredth of the amount you are mortgaging. For instance, a point on a $100,000 mortgage would cost you an extra $1,000 as part of your mortgage application fees. As a general rule of thumb, each point your purchase will reduce your interest rate by a quarter of a percent. It is wise to do this if you plan to own your home for five years or more. Each point you reduce can save you thousands over the term of your loan. Remember the points at tax time also. In most cases, you can deduct the points you have purchased in the tax year on your federal income tax return.


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