Bad credit doesn't disqualify you from a construction loan


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Ask a Lender
May 17, 2017 | Updated September 18, 2017


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Key Points

How to find a construction loan with poor credit

  • Get started on boosting your credit as soon as possible.
  • A larger down payment will give a potential lender more confidence.
  • FHA construction loans and builder financing are less concerned with credit scores.

You’ve acquired some land and are ready to build the home of your dreams. Yet if you’ve had a past bankruptcy or other credit blemish, you might find your house haunted by the specter of poor credit before you even break ground.

Construction loans are already tricky to obtain. Lenders see them as riskier prospects than other home loans, given there is no completed house to use as collateral. Also, construction plans often go over budget, schedule or awry in some way. While construction loans can be secured by the land being constructed upon, it is less attractive to lenders to take possession of land alone or a half-built house should the borrower default on the loan in the middle of construction.

Add a poor credit score of less than 680 into the mix and you have a risk recipe that many lenders are hesitant to make. You won’t be able to waltz into a construction loan easily if you have poor credit, but it is possible to obtain financing with some dedication and planning.

Boost your credit

The first and most obvious task is to work to improve your credit. Pay your bills on time and pay down as much outstanding debt as possible. Get a copy of your credit report and check for errors that may be weighing down your score, as well. There is no quick fix to improving your credit score, so begin as soon as possible.

Save up for a larger down payment

Start saving toward a down payment. When seeking any loan with poor credit, the larger the down payment you are able to extend, the more seriously a lender will take your proposal. Those with bad credit typically need to put down 20 percent of the loan to give a lender more confidence. That may seem like a large sum, but there are down payment assistance programs that could potentially help.

One-step vs. two-step

Construction loans can either be one-step or two-step loans. With a one-step loan, the financing for the construction converts to a home mortgage, where a two-step loan requires closing a separate construction loan and home mortgage. You have options with either route, even if you have poor credit.

  • FHA construction loan. The Construction to Permanent Mortgage program is a one-step construction loan backed by the Federal Housing Administration (FHA) and has the same qualification parameters as a standard FHA mortgage. With a credit score of 580 or above, a borrower can qualify for a loan with 3.5 percent down. Those with a score of less than 580 can potentially still qualify with a down payment of 10 percent.
  • Builder financing. Unless you are building the home yourself, you will require the services of a building contractor. Some builders — particularly larger companies — can finance the construction themselves, removing your credit score from the picture. Once construction is completed, you will need to secure a mortgage to pay for the house, but this may be easier now that you have a physical home to use as collateral — and you would have hopefully been working to improve your credit over the construction period.

Whichever loan type you seek, first prepare the construction plan documentation and compare lenders. Construction loans are a more niche product than standard mortgages and there are fewer on the market. On top of that, loans for those with poor credit are usually more expensive, so it is essential to shop around to find the best rates and conditions. With some planning, time and comparison, you should be able to secure the financing to break ground.


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