Obtaining construction loans enables you to secure funds to have a custom-built home instead of purchasing an already-built property. With this option, you can construct your dream home from scratch, including choosing a suitable location, creating a unique design, and overseeing the entire construction process.
Construction Loans Vs. Mortgages
Construction loans are distinct from standard mortgages in duration and disbursement schedule. They serve as a temporary funding solution for building a new home, with the loan amount distributed incrementally throughout the construction stages. Conversely, traditional mortgages apply to already-built properties, offer longer repayment terms, and typically have lower interest rates.
| Variables | Construction Loans | Construction Mortgages |
| Loan Purpose | Short-term financing for new home construction | Long-term financing for existing home purchase or refinancing |
| Loan Amount | Based on project costs and builder qualifications | Based on property value and borrower qualifications |
| Disbursement | Paid out in stages as construction progresses | Paid out in full at closing |
| Interest Rates | Higher interest rates due to greater risk | Lower interest rates due to less risk |
| Repayment Term | Typically, up to one year | Typically, up to 30 years |
| Collateral | The property under construction serves as collateral | The property being purchased or refinanced serves as collateral |
| Application Process | Can be more complex with additional documentation and construction plans required | Similar to traditional mortgage application process with proof of income, credit history, and property appraisal required |
Do You Know How New Home Construction Loans Work?
Construction loans are also commonly referred to as draw mortgages. The draw process involves the lender providing funds to the borrower, which are then used to pay for construction-related expenses such as contractor fees and building supplies. The funds may be disbursed through the borrower’s lawyer, who will oversee the disbursement of funds to the contractor. Alternatively, some lenders may deal directly with the contractor for disbursement.
In any case, the lender will typically require a construction plan or budget to be presented before releasing the funds. It is essential to have a detailed and accurate budget to increase the likelihood of obtaining the loan.
To estimate the resources required for a particular project, borrowers may directly consult with contractors or utilize online calculators to determine the materials needed for constructing a staircase.
Typically, lenders will permit borrowers to borrow up to 75% of the total construction costs. As a result, the borrower must contribute the remaining 25% of the construction expenses from their own funds.
In cases where a general contractor or home builder is not utilized, a self-build construction loan is available to provide construction financing for individuals building their own homes. However, it is essential to possess the required experience and expertise for the construction process.
Things You Need to Consider About Construction Mortgages
Financing the construction of a new home with a builder’s mortgage can be more stressful than purchasing an existing home. The lender may require additional documentation and upfront payments from the borrower.
Nevertheless, there are several types of builder’s mortgages available that can assist in financing a variety of construction projects. This enables borrowers to customize their financing options according to their specific needs.
In Canada, borrowers can choose between a process draw mortgage or a completion mortgage, or a combination of both, depending on their project and broker preferences.
Eligibility of Construction Loans
For obtaining construction loans, you may need to pay a larger upfront sum compared to a traditional mortgage down payment. The reason for this is that the collateral is an unfinished property, which requires additional information for the loan to be approved.
Lenders may scrutinize construction loans more thoroughly because they are generally less expensive than completed homes. Your lender may evaluate your income, debt, and credit scores. However, construction loans generally have lower fees than traditional mortgages.
Qualifying for a construction loan usually entails more rigorous requirements than a conventional mortgage. Nevertheless, you can increase your chances of finding a suitable loan by comparing offers from various brokers and lenders.
You Can Get Loans or Mortgages for These Types of Construction Projects
Construction loans in Canada typically fund various types of construction projects, including homes built by contractors, homes built by borrowers acting as their own contractors, and newly constructed homes that require additional funding.
Home Built by Contractors
To construct a home with a registered contractor, borrowers typically enter into an agreement with the contractor and provide funding for the project. The contractor may require “financing draws” at different stages of the construction process to finance the building.
Funding options for this type of construction project may include completion mortgages or progress draws.
Self Built Homes
If you have the necessary skills and resources, you may act as your own contractor and hire tradespeople to help you build your home. Further information on draw requirements for this type of project will be covered later in this article.
Funding options for self-built homes may include completion mortgages or progress draws.
New Home Construction Projects
A construction mortgage can be a helpful solution if you need additional funds for a newly built home after the construction has been completed. This is a common scenario that can be addressed through a completion mortgage.
What Construction Projects are NOT Eligible for Loans?
If you are buying a house from a developer or builder, you may not require construction financing as the funding will already be in place. Similarly, if you sell your first home, you can follow the same procedure.
However, it’s worth noting that some banks do not offer construction loans for condominiums or cooperative apartment buildings, and federal government programs also may not provide such loans. Additionally, some lenders offer loans to businesses constructing new homes.
It’s important to remember that construction loans can cover the costs of permanent elements like appliances and landscaping. To better understand the specifics, it’s essential to discuss your options with brokers and lenders thoroughly.
The Best Type of Construction Loan You Can Get in Canada
Construction loans can be an attractive option for both first-time homebuyers and experienced homeowners alike. However, it’s important to consider which types of projects would be a good fit for this type of financing.
Start your construction loan research by finding a reliable local mortgage lender to guide you.
Ultimately, the type of construction loan that will work best for you will depend on various factors, such as the nature of your project, the availability of contractors and properties in your area, and your eligibility for the loan amount you need.
Keep in mind that construction loans can be more challenging to find than traditional mortgages, so it’s wise to start with your local bank, especially if you already have a relationship with them. You may also want to consider reaching out to other local banks, credit unions, and cooperative banks to explore your options.
How Much Do You Need to Borrow For Your Construction Project?
It is crucial to ensure that you stay within your budget when paying monthly mortgage payments and additional construction costs. So, you need to consider potential future expenses when using a builder’s mortgage. Although a construction loan covers land and construction expenses, it does not cover living expenses during construction. Understanding what expenses can be paid for with a builder’s mortgage is crucial to using it effectively.
Knowing how much to borrow also depends on the draw schedule, which specifies milestones that trigger a progress inspection. Based on the progress, your lawyer will establish and provide the draw amount to your contractor or to you if you’re acting as your own contractor. The bank will not deal directly with your contractor but will always work through your lawyer.
Cost Per Square Foot of Building a New Home in Canada by City
The construction costs for different types of homes can vary greatly. Builders typically offer two options for home construction: stock and custom-built homes. Stock homes are pre-designed and built efficiently but need more flexibility in terms of design.
Building a custom home allows the owner to have complete control over the design, but the construction costs can be significantly higher. Stock homes, on the other hand, are pre-designed for efficient construction, resulting in lower costs per square foot. However, with a custom home, the cost can exceed $700 per square foot in many cities. The total cost of a custom home will depend on various factors, such as the size of the property, which can increase the amount of materials needed for the project. For instance, a larger house may require more concrete for the foundation, significantly increasing the overall construction costs.
| City | Cost per Square Foot | Average Home Size | Total Building Costs |
| Toronto | $300 – $500 | 1,500 sq ft | $450,000 – $750,000 |
| Vancouver | $350 – $600 | 1,800 sq ft | $630,000 – $1,080,000 |
| Montreal | $200 – $400 | 1,200 sq ft | $240,000 – $480,000 |
| Calgary | $250 – $450 | 1,600 sq ft | $400,000 – $720,000 |
| Ottawa | $200 – $350 | 1,500 sq ft | $300,000 – $525,000 |
| Edmonton | $200 – $400 | 1,500 sq ft | $300,000 – $600,000 |
| Quebec City | $150 – $300 | 1,200 sq ft | $180,000 – $360,000 |
| Winnipeg | $150 – $250 | 1,300 sq ft | $195,000 – $325,000 |
| Hamilton | $250 – $400 | 1,600 sq ft | $400,000 – $640,000 |
| Kitchener | $200 – $350 | 1,400 sq ft | $280,000 – $490,000 |
Draw Schedule for Construction Projects in Canada
A draw schedule for construction defines the payment schedule for construction draws. Typically, the contractor negotiates a draw schedule with the bank prior to commencing construction. Although the bank may have a standard draw schedule, the contractor or bank appraiser may suggest alternative payment schedules based on differences in construction costs or timelines. Construction draw schedules may be based on project milestones, such as completion of the foundation or roof or a percentage of the overall project completion.
Interest charges will only begin to accrue once each construction draw is released. As a borrower, you may prefer to receive draws as late as possible to reduce your interest costs during construction. However, the contractor would prefer to receive payment as soon as possible. If your lender or contractor suggests an alternative payment schedule, it’s essential to review it to ensure that it pays your contractor on time while also being reasonable.
Here’s an example of a construction draw schedule for a residential project in Canada:
Draw #1: Foundation – 15%
- When excavation is complete, and the flooring is in place: 5%
- When foundation walls are complete: 10%
Draw #2: Framing and Rough-in Plumbing/Electrical – 25%
- When rough-in framing, plumbing, and electrical are complete: 25%
Draw #3: Exterior Finishing – 20%
- When exterior finishes (siding, roofing, windows, etc.) are complete: 20%
Draw #4: Interior Finishing – 20%
- When insulation, drywall, and painting are complete: 10%
- When flooring, cabinetry, and trim are complete: 10%
Draw #5: Final Inspection – 20%
- When the final inspection is complete, and the home is ready for occupancy: 20%
| Draw # | Percentage of Completion | Amount Paid |
| 1 | 20% | $100,000 |
| 2 | 40% | $200,000 |
| 3 | 60% | $300,000 |
| 4 | 80% | $400,000 |
| 5 | 100% | $500,000 |
How To Apply for a Construction Loan or Mortgage in Canada?
The process of applying for a new construction loan is similar to that of buying a new home. The lender may review your purchase order plan, specifications, and other items to approve the project with the builder if necessary.
If you’re preparing your mortgage application, a mortgage loan officer can assist you. Regardless of how you initiate the process, there are several consistent steps you can anticipate:
- Submit a loan application: The first step is to fill out an application with the construction budget lender. This application includes personal and financial information, as well as details about the construction project.
- Provide documentation: You must provide documentation such as your income statements, tax returns, and credit report to the lender.
- Get pre-approved: The lender will review your application and documentation to determine how much you can borrow for the project. This pre-approval process helps you determine the budget for your project.
- Finalize the construction plans: You will work with the builder to finalize the construction plans, which include the materials, timeline, and costs.
- Close the loan: Once the lender approves the construction plans and confirms the project’s value, they will close the loan. At this point, the funds will be disbursed to the builder in accordance with the draw schedule.
- Begin construction: With the loan closed, construction can begin on the project. The lender will monitor the construction progress to ensure the work is completed according to the agreed-upon plans and timeline.
- Convert to a mortgage: The construction loan can be converted to a traditional mortgage loan after construction is completed. This involves additional paperwork and a new appraisal to determine the property’s final value.
What Documents are Required?
The procedure for applying for building loans is relatively consistent across provinces, with only a few specific documents required. If you are considering a builders loan, you will typically need to provide:
- Key details about your debts, income, and assets.
- A signed agreement with your builder, developer, or contractor outlining the specifics of your loan needs.
- Financial statements, licenses, and insurance information for the builder.
- If you intend to serve as your own contractor, you will need to demonstrate your competency and qualifications.
How Much is the Down Payment?
Applicants must provide a down payment, which can vary based on the lender and loan type, but generally ranges from 20% or higher of the project’s overall cost. This means that the borrower must have their own resources to ensure they can repay the loan, and the actual down payment amount will depend on the project’s expenses and how the funds will be utilized.
Moreover, borrowers must furnish their credit report and credit score details, which lenders will evaluate, along with other criteria, to determine the required upfront payment.
Private vs. Traditional Lenders for Construction Mortgages and Loans
Traditional banks usually follow a strict schedule for construction draws, ranging from 1-5. The bank will scrutinize all necessary documents and inspect them to ensure the locking phase is executed successfully.
While private lenders may be suitable options for construction loans, they may not be ideal for permanent mortgages once your home is built. Generally, private lenders have more lenient requirements for loans than traditional lenders.
After moving into your new home, you will typically switch to a regular lender who can provide you with long-term loans with lower interest rates than private lenders. Ultimately, the choice of lender will depend on your specific circumstances, and shopping around for the best options is advisable.
Reviewing Your Construction Financing Options
Private lending providers offer greater flexibility when it comes to selecting borrowers for construction loans, but they typically charge higher fees compared to other types of lending. On the other hand, traditional lenders may offer more reasonable fees and interest rates but have more stringent requirements when reviewing your qualifications, assessments, and other documentation.
Ultimately, the best financing option for your project will depend on various factors, such as the nature of the construction, the estimated building cost, and the completed property’s value.
Construction Loans and Mortgages for Building a New Home or Renovating One
Building loans can be used to finance both new building constructions and home renovation projects. It is important to have an understanding of construction loans to choose the best option for your project. Online loan services can be helpful in this process. However, if you are only planning to renovate your existing home and not build a new one, there may be other loan options that are more suitable for your needs, such as homeowner renovation loans.
An option to consider for those looking to make home improvements is an improvement mortgage, which allows you to borrow more on your mortgage. Certain lenders may offer these types of mortgages, where you can receive extra funds in addition to the home’s purchase price to cover smaller improvement projects.
As home improvements have the potential to increase the value of a property, it is important to note that the down payment required for a mortgage will also increase accordingly. The down payment will be based on either the new appraised value of the property after improvements or the total cost of the property plus the cost of improvements, whichever is lower.
Want a Successful Building Experience?
Construction mortgages must follow a series of specific steps for a successful outcome:
- Identify the necessary resources for the project.
- Set benchmarks for evaluating the draw schedule.
- Establish effective communication channels between developers, contractors, and lenders.
- Scrutinize the realism of the project design and construction.
- Monitor the progress closely to ensure that everything is on track according to plan.
Choose the Right Mortgage Broker
Selecting an experienced mortgage broker can provide you with various options that you may not have considered before. A broker can also connect you with lenders who can offer you the best deals and options.
Compare and Contrast
It is always beneficial to check with multiple brokers and lenders to get a clear idea of what to expect during the application process. If you only consult with one broker or lender, you may not have access to all of your options.
Be Prepared
Allow for unexpected expenses during the construction process. It is also essential to thoroughly review your loan contract and other details to avoid surprises later on.