High-end, custom homes are most often financed through jumbo loans, loans above the industry standard as set by Freddie Mac and Fannie Mae. These two institutions have set a limit of $417,000 in most of the United States as the maximum amount for a mortgage they will purchase from an individual lender. Jumbo and super jumbo loans ($625,000 +) tend to have higher interest rates because lenders view the high end homes as more difficult to liquidate. The recent economic stimulus package passed by Congress created a new category called jumbo conforming loans but this only applies to a few counties in the US which have extremely high housing costs, areas such as Boston and San Francisco.
Closer to home, we spoke with bankers Glynn Alexander from First Tennessee and Gary Luzander from Regions Mortgage about navigating the current market.
SCA: What are the complexities facing borrowers for high end, custom homes?
GA, First: The time factor in a volatile market is the primary area of concern given that construction may take 18 months or more. We’ve seen how drastically the economy can change in a relatively short time span. Also, loan amounts are typically based on comparables and since custom homes are not sold on the market, there is a lack of comparable sales figures. With the market being compressed, it is even harder to get good comparable sales figures.
SCA: How are lenders addressing the lack of comps?
GA, First: A traditional appraisal is more of a snapshot in time of particular market conditions. With the ongoing changes in the market, the bank does more internal analysis. Also, our bank is much more involved in the construction process, doing work on the front end and monitoring throughout the building process.
Where equity requirements were 15-20% down, it is now closer to 25-30%. To help overcome this obstacle, banks look at other assets – a second home or investments -- to set up separate lines of credit and/or a home equity loan for existing homes to bridge the gap.
SCA: Some banks are offering one time or two time closing approaches. The two time close scenario breaks the loan into an initial phase and a second phase as construction nears completion, again, with an interval of 18 months or more. The first phase covers the construction phase and then the second phase is negotiated for the completed home; the latter is more like a normal mortgage. What are you doing?
GA, First: First Tennessee no longer offers a one time close, preferring a two time close. Formerly bank and mortgage lenders worked together with customers. Now everything gets approved through the bank and as a house gets close to completion, the client is able to shop for permanent mortgage. We think this is better for both the bank and client in facing the realities of a rapidly changing market.
GL, Regions: Regions favors the one time close which has the advantage of locking in a rate (on an ARM) and closing the loan. This can be an advantage over a two time loan in case the client’s situation or circumstances change; this amounts to approval protection. For larger homes the one time close typically gets a 5:1 ARM (fixed for first five years , then it adjusts).The construction period is part of the five years, thus if it takes 18 months to build the house, then there are 42 months left on the fixed portion of the loan.
SCA: What are some other considerations for loans?
GL, Regions: Regions will allow interest only loans, which helps in some cases, such as people whose base salary is periodically bolstered by bonuses. With extra payments during the interest only period, the outstanding balance goes down.
Also, Regions offers an option to open up a separate checking account for the construction draw, making record keeping easier. Some select builders can access accounts with their client’s permission.