Can An FHA Loan Be Used To Build A New Home? What To Know

For some buyers, a dream house doesn't exist until it's built. New construction offers a clean slate, with no mysterious stains hiding under the carpet or dated bathroom fixtures that will cost a fortune to replace. Figuring out how to finance a new build can be even harder than coming up with the perfect floor plan, hiring contractors, or patiently waiting until it's move-in ready. Fortunately, FHA loans are designed to bring the building process within reach for buyers who need to secure land, finance construction, and cover lenders' fees.

There are two kinds of FHA construction loans, construction-to-permanent and FHA 203(k). If starting from scratch feels overwhelming, but you've found the perfect fixer-upper in need of major work, the FHA 203(k) loan is the better fit. But for building a new home, construction-to-permanent is the answer. Financing comes in two stages. First, it covers the cost of building your home from the ground up, which includes purchasing a parcel of land. Once the house is completed and passes inspection, it automatically converts into a traditional FHA mortgage. As a single-close loan, you won't have to pay closing costs twice, which can save you money. Although mortgage rates are trending downward, construction loan rates, including the FHA's hybrid construction-to-permanent loans, will be slightly higher than conventional mortgages. But if you're a buyer without a pile of cash or flawless credit, it's still a straightforward path to a set of house keys as long as you meet all the borrowing requirements.

So what does it take to actually qualify for an FHA construction-to-permanent loan? You'll generally need a credit score of at least 580 to qualify for the minimum 3.5% down payment, although some lenders may set higher thresholds. Stable employment and proof of income are also essential. You'll need to apply through an FHA-approved lender, which may be a traditional bank, credit union, or a specialized mortgage company. The process is similar to any other mortgage application, except you'll have to submit detailed building plans and bids from contractors. Once approved, you won't get a pile of money. Instead, funds will be distributed in phases to cover labor and materials as major milestones are reached. An FHA inspector will check the building progress frequently to ensure the building process stays on track. Additionally, only licensed builders who meet FHA standards are allowed to take on construction, so DIY isn't an option. And since FHA construction-to-permanent loans require the finished home to be your primary residence, they're not a good option if you're looking to build a rental property or second home.

It's important to consider the pros and cons while deciding what kind of loan is right for you. When it comes to FHA construction-to-permanent loans, lower down payment requirements and more flexible credit standards make new construction more accessible to buyers who don't qualify for conventional financing. And the single-loan structure simplifies the process. However, mortgage insurance is required on these loans, which will add to your overall monthly expenses. And with funds released in stages, progress can be slowed if progress inspections reveal issues.