A construction mortgage is an excellent option for financing your custom-built dream home. Before you start the process, it’s important to understand how it works and the associated conditions.

For many Canadians, building their dream home from scratch has become a popular choice due to rising real estate costs and personal preferences. With a construction mortgage, borrowers can secure financing to construct a new home. Unlike regular mortgages, construction mortgages are released in stages known as “draws” with funds disbursed gradually as construction progresses.

Ideally, owning the land before obtaining a construction mortgage is the most cost-effective option, but it may not always be feasible based on your financial situation. In such cases, some lenders allow you to use the first advance towards purchasing a vacant lot to start construction.

The following outline assumes you’ve already accounted for the planning and soft costs associated with your new build. Soft costs, including architectural and engineering fees, permit fees, and other expenses related to the design and approval of the project, are usually separate from the construction draws. These costs are incurred during the planning and permitting phase of your construction project.

The construction mortgage schedule depends on the percentage of progress made towards building your home, with the lender providing funds in stages:

  1. First Draw (15% Complete): Excavation and foundation work. At this stage, the land is excavated, and the home’s foundation is laid. This initial step may require significant funding, and you can receive 15% of your construction mortgage after this construction work is done. Alternatively, this step may be consolidated into the second draw.
  2. Second Draw (40% Complete): Waterproofing, framing, roof completion, concrete slabs, windows, and doors. The second stage involves waterproofing the home and completing essential elements like windows, doors, and the roof. Your home should be secure enough to withstand the elements at this point. You can now receive an additional 25% of your construction mortgage. If the first stage was skipped, you will receive 40% of your mortgage at this stage.
  3. Third Draw (65% Complete): Electrical low-voltage wiring, plumbing, heating, ventilation, and air conditioning (HVAC) rough-ins, fireplace(s), temporary heat insulation, interior drywall and exterior veneer. During the third stage, the interior walls are completed, and the electrical and plumbing systems are installed. The furnace is put in place, and plastering work commences. You can now receive an additional 25% of your construction mortgage.
  4. Fourth Draw (85% Complete): Flooring, interior doors and trim, stairs, kitchen and other cabinetry, exterior and landscaping, nearing completion. At this stage, significant progress has been made, and the kitchen and bathroom installations are underway. Most major rooms in the home are nearing completion. You can now receive an additional 20% of your construction mortgage.
  5. Fifth Draw (100% Complete): Countertops, mouldings, paint, door hardware, install closets, bath hardware and mirrors, exterior and landscaping. At this final stage, all of the interior and exterior work on your home should be finalized. You’ll receive the final 15% of your construction mortgage upon completion of the entire home. Once construction is complete and project completion has been verified by the lender, the construction mortgage is “moved over” to a conventional mortgage loan.

Before getting a construction mortgage, there are some important considerations:

  • Your lender may ask you to hire an inspector to ensure construction progress aligns with the draw schedule, with inspection costs being your responsibility.
  • Construction mortgages are available in Ontario, but not offered in every province.
  • Once you sign the construction mortgage agreement, the loan amount cannot be changed. If you plan to upgrade or modify your home, you’ll need to adjust your budget or cover the additional costs separately.
  • Loan Duration: Home construction loans are typically short-term agreements, usually lasting for one year. In contrast, traditional mortgages come with varying terms, ranging anywhere from 1 to 10 years.
  • Prepayment Penalties: Most construction loans do not penalize you for early repayment of the balance, unlike traditional mortgages that can include pre-payment penalties if not specified in your agreement.
  • Monthly Payments: During construction, monthly payments for construction loans are interest-only. This means you are only required to pay the interest until the end of the construction phase.
  • Interest Charges: Construction loans only accrue interest on the amount of the loan used during the construction process. You are not obligated to pay interest on any unused portions of the loan. Conversely, traditional mortgages require borrowers to pay interest on the entire loan amount from the start.
  • Land Purchase: Construction loans can provide upfront funds to purchase the land for your building project. This is in contrast to traditional mortgages, which typically do not cover land-only purchases.
  • Transition to Mortgage: Any remaining construction costs can be paid off by obtaining a mortgage on the completed home.
  • Note: If you plan on a self-build, you will need to demonstrate that you have the necessary experience to handle the construction process from start to finish.

It’s important to keep in mind that, similar to traditional mortgages, construction loans come with varying rates and terms. These factors depend on the type of property you’re constructing, the amount of construction involved, and the duration of the construction project.

Five most important things to keep in mind.

Feel free to reach out, and I can help you navigate the complexities of arranging financing for your new home construction.

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