A construction to permanent loan is a single mortgage that finances the building of a new house and then converts into a long-term home loan once construction is finished, all under one closing. During the build, the lender releases money in stages and you pay interest only on what has been drawn. When the home is complete and receives its certificate of occupancy, the balance rolls into a standard amortizing mortgage with regular principal and interest payments. Conventional lenders typically expect around 20% down on the combined land and construction cost, a credit score of at least 680, and detailed documentation on both your finances and your builder.
How the Single-Close Model Works
The loan has two phases inside one legal agreement. In the construction phase, your lender funds the project through a series of installment payments called draws, tied to milestones like foundation, framing, roofing, mechanical systems, and finishes. You pay interest only on the money that has actually been disbursed, so your payment grows as the build progresses. Once the local building authority issues a certificate of occupancy, the loan converts into a permanent mortgage and you begin making regular principal-and-interest payments on the full balance.
The older alternative is a two-close loan: a short-term construction loan followed by a separate permanent mortgage after the house is built. Two-close loans can offer a lower rate on the permanent side because you shop the market after construction, but you have to qualify twice and pay closing costs twice. If your income, credit, or interest rates change during the build, you can get stuck. A single-close loan trades that flexibility for certainty. Your permanent rate, loan amount, and term are set before construction begins.
What You Need to Qualify
Underwriting for a construction loan is tighter than for a standard purchase mortgage because the collateral does not yet exist. Expect scrutiny on several fronts.
- Down payment. Conventional lenders typically want 20% of the combined land and construction cost. Government-backed programs allow less, sometimes as little as 3.5% for FHA or zero for VA.
- Credit score. A 680 minimum is standard for conventional construction loans. Scores above 720 unlock better rates and terms.
- Debt-to-income ratio. Fannie Mae allows a total DTI up to 50% when the loan runs through its automated underwriting system. Manually underwritten files are capped at 36% and can stretch to 45% only with strong compensating factors like extra reserves or a high credit score.1Fannie Mae. Debt-to-Income Ratios
- Income documentation. Two years of tax returns, recent pay stubs, and bank statements.
- Reserves. Liquid savings beyond the down payment, ideally enough to cover three to six months of projected interest payments during the build.
Construction almost always runs longer or costs more than the original estimate, so reserves are not optional in practice even when a lender’s written minimum is lower.
What Your Builder and Project Must Show
Your builder matters almost as much as your credit score here. Lenders require proof that the contractor is licensed, carries general liability insurance, and has a track record of finishing residential projects on time and on budget. Expect the lender to review the builder’s financial statements, check for lawsuits or liens, and verify license status with the state. If the builder cannot pass this review, the loan does not move forward no matter how strong your personal finances look.
On the project side, you submit detailed blueprints, a full specification book listing every material and finish, and a signed construction contract. Most lenders strongly prefer fixed-price contracts because they protect the loan balance from cost overruns. The plans, specs, and contract together form the basis for the lender’s review, the draw schedule, and the appraised value of the finished home.
One requirement people often miss: most lenders will not let you act as your own general contractor. They want a licensed professional on the hook, with insurance and accountability if the project goes sideways.
Hard Costs vs. Soft Costs
Construction budgets split into two categories, and getting them right from the start keeps your loan amount realistic. Hard costs are the physical construction expenses: foundation, framing, roofing, plumbing, electrical, and finishes. These typically account for 80% to 90% of a residential project budget. Soft costs cover everything else: architectural and engineering fees, permits, construction insurance, loan origination fees, and the interest you pay during the build. Soft costs usually run 10% to 20% of the total.
Underestimating soft costs is a common mistake. Permit fees vary widely by jurisdiction, and impact fees for municipal water and sewer connections can add thousands depending on your location. These do not show up on a builder’s quote because they are typically the owner’s responsibility.
Closing, Appraisal, and the Draw Schedule
Once your financial documents and builder credentials are assembled, the lender orders an “as-completed” appraisal. Rather than evaluating an existing structure, it estimates the finished home’s value based on the plans, specifications, and comparable sales. The appraisal must be dated no more than four months before closing, and the appraised value has to support the total loan amount.2Fannie Mae. Requirements for Verifying Completion and Postponed Improvements If the appraisal comes in low, you will need to reduce project scope, bring more cash, or renegotiate with the builder.
After underwriting clears, you close once. At the table you sign the promissory note and deed of trust covering both the construction and permanent phases. Closing costs generally run 2% to 5% of the total loan amount, including title insurance, recording fees, and lender origination charges. The lender may issue an initial disbursement at closing to pay off any existing land debt or cover upfront soft costs like architectural fees and permits, which lets the builder mobilize right away.
From there, money flows through the draw schedule. Before each draw is released, a third-party inspector visits the site to confirm the work matches the approved plans and meets local code. Interest is calculated only on the amount actually drawn, so if $150,000 of a $500,000 loan has been disbursed, you owe interest on $150,000. This interest-only period typically lasts 6 to 18 months.
Retainage
Lenders commonly withhold 5% to 10% of each draw as retainage. The money sits in escrow until the builder finishes the punch list, passes the final inspection, and resolves any deficiencies. Retainage gives the builder a reason to finish strong rather than rush the final details, and it keeps you from paying 100% for a 95%-complete house.
Lien Waivers
Before releasing each draw, many lenders require lien waivers from every subcontractor and supplier paid from the previous draw. A lien waiver is written confirmation that the sub has been paid and will not file a claim against your property. Without them, a mechanic’s lien can land on a home you are still building, creating a title problem that can delay or derail conversion to the permanent mortgage. Make sure your builder has a system for collecting waivers at every stage.
Locking Your Permanent Rate
Here is the detail that catches many borrowers off guard: the rate on your permanent mortgage may not be set until the loan converts, which could be a year or more after you close. If rates climb during that window, your payment on the permanent side could be meaningfully higher than you planned.
Some lenders offer extended rate locks that protect your permanent rate for up to 12 months during construction. A few also include a one-time float-down option, which lets you capture a lower rate if the market moves in your favor before conversion. Extended locks are not free. They typically cost a fraction of a point, and the longer the lock, the higher the premium. But on a 30-year mortgage, a half-point rate increase translates to tens of thousands of dollars over the life of the loan, so the lock fee is almost always worth it on a build expected to run more than six months. Ask your lender exactly how rate lock and conversion pricing work before you close.
Risks During the Build
Contingency Reserves
Unexpected costs are the norm in construction. A contingency reserve is a pool of money set aside for surprises like hidden site conditions, material price increases, or design changes. Fannie Mae does not require a contingency reserve for single-unit properties, but individual lenders often build one in anyway.3Fannie Mae. HomeStyle Renovation Mortgages Costs and Escrow Accounts A reserve of 5% to 10% of total construction costs is a reasonable planning target. If you do not use it, the money simply reduces your loan balance at conversion.
Builder’s Risk Insurance
Your homeowner’s policy does not kick in until you occupy the house. During construction, the partially built structure is exposed to fire, wind, theft, and vandalism with no coverage unless someone arranges it. Builder’s risk insurance fills the gap. Most lenders require a policy equal to at least 100% of the completed value, and the borrower is typically responsible for keeping it in force throughout the build.4Fannie Mae Multifamily Guide. Builders Risk Insurance Your builder may carry a policy, but verify it names you and the lender as additional insureds.
Delays and Extension Fees
If the build runs past the original timeline in the loan agreement, the lender may grant a short extension, but it will not be free. A quarter-point fee for every 90 days of delay is a common structure. Delays also mean additional months of interest-only payments, which add up quickly. The best protection is a builder with a solid track record and a construction contract that builds in realistic timelines from the start.
If the Builder Defaults
If your builder goes bankrupt or walks off the job, you are in a difficult spot. The loan is in your name and the lender expects payment regardless of whether work continues. You will need to find a replacement willing to take over a partially finished project, which often costs more than starting fresh. The lender will typically work with you to approve a new builder, but any cost increases may come out of pocket. This is why builder vetting matters so much: the lender’s due diligence is protecting you as much as it protects the bank.
Converting to the Permanent Mortgage
Conversion starts when the local building authority issues a certificate of occupancy, confirming the home is safe to live in and meets code. The lender then orders a final inspection and an appraisal update to verify that the finished home matches the original plans.2Fannie Mae. Requirements for Verifying Completion and Postponed Improvements
Conversion itself is handled through either a construction loan rider attached to the original mortgage documents or a separate modification agreement. Either way, you do not go through a second closing. The modification locks in the permanent terms: your fixed or adjustable rate, the loan term (typically 15 or 30 years), and the new monthly payment, which now includes principal and interest.5Fannie Mae. Conversion of Construction-to-Permanent Financing Single-Closing Transactions
If construction costs rose during the build, the lender may allow a modification to increase the loan amount, but only to cover documented overruns. Any increase requires updated title insurance and confirmation that the mortgage remains a first lien on the property.5Fannie Mae. Conversion of Construction-to-Permanent Financing Single-Closing Transactions Modifications can also change the rate, term, or amortization type, such as switching from an adjustable rate to a fixed rate.
Government-Backed Alternatives
Conventional loans are not the only path. Three government-backed programs offer single-close construction financing with lower barriers to entry.
FHA One-Time Close
FHA construction loans allow a down payment as low as 3.5% with a credit score of 580 or above. Scores between 500 and 579 need 10% down. The trade-off is mortgage insurance premiums for the life of the loan in most cases, which adds to your monthly cost. FHA one-time close loans are limited to single-family primary residences built by a licensed contractor. You cannot act as your own builder, and non-traditional construction types like barndominiums, kit homes, and shipping container homes are excluded.
VA Construction Loans
Eligible veterans and active-duty service members can finance new construction with no down payment and no private mortgage insurance. The VA charges a funding fee instead, which varies based on your down payment and whether you have used a VA loan before. For first-time use with no money down, the fee is 2.15% of the loan amount; 5% or more down drops it to 1.5%, and 10% or more cuts it to 1.25%.6U.S. Department of Veterans Affairs. VA Funding Fee and Loan Closing Costs Veterans with a service-connected disability rating may be exempt from the funding fee entirely.7U.S. Department of Veterans Affairs. VA Offers Construction Loans for Veterans to Build Their Dream Homes The funding fee can be rolled into the loan; other closing costs must be paid at the table.
USDA Single-Close Construction Loans
The USDA offers construction-to-permanent financing for low- to moderate-income borrowers building in eligible rural areas, defined as communities with populations up to 35,000.8United States Department of Agriculture Rural Development. Single Family Housing Guaranteed Loans Combination Construction to Permanent Loans Like VA loans, USDA requires no down payment. Income limits apply and vary by county, so check the USDA eligibility tool for your specific location before investing time in an application. The combination of zero down and rural eligibility makes this program a strong fit for a narrow audience, but the upfront savings are substantial if you qualify.