Self-build mortgages offer stage payments to those who are interested in building their own property. This type of mortgage enables individuals to purchase a suitable plot and to receive regular financing for the building costs associated with this type of project.
Self-build mortgages begin with the purchase of the land. This works in a very similar way to a standard investment mortgage, meaning that mortgage lenders will generally forward around 75 percent of the purchase price. One anomaly is that many lenders will lend 75 percent of the purchase price OR the value, whichever is lower. This is an interesting point and one that has been raised for a very good reason.
Many investors will purchase land on a speculative basis, i.e. without planning permission in the hope that planning permission can be obtained, at a later date. This approach, of course, presents a huge risk and the higher the chances of obtaining planning permission, the greater the purchase price is likely to be. Although the decision of risk versus cost is entirely up to the investor, it is important to recognise that the financing company may not have the same thoughts on the land and may, therefore, consider its value to be a lot less than the actual purchase price.
Lenders offer further mortgage finance as the build progresses, until the property is complete and the entire mortgage is taken. How stage payments are calculated varies between providers, but broadly they fall into two categories: advance or arrear.
With arrear payments, the financial institution inspects the property at the end of every stage and then, based on their own valuation, provides a mortgage to reflect the increased value of the property. This method has one major downside, namely that the builder will have to find the cash up front to pay for the build. However, as this method is less risky for the financial institution, it often offers more favourable rates.
In the case of forward payments, the cash is forwarded at the beginning of the relevant stage. This has obvious cash flow advantages, but will generally mean that the borrower is subjected to greater control in terms of what is being completed and when, as well as increased interest rates to reflect the greater risk taken by the lender.
Essentially in either case, at the end of the build the mortgage should be the same and should reflect the completed value of the property.