When choosing a new home you may consider designing and building your own. For this you will need to buy a plot of land. But do you know what is the required down payment to buy land? And, more importantly, what is a down payment for buying land?
We will take a look at this important step in purchasing a plot of land and what it involves.
What Is A Land Loan?
A land loan is sometimes referred to as a lot loan and used to finance the purchase of a piece of land for building on or for business purposes.
The type of loan will depend on the intended use of the land and where it’s located. A land loan is not the same as a construction loan which is used to finance the building of a house.
If you purchase land with the intention of building a house straight away then a construction loan is best. However, if you want to buy the land and plan your home before beginning construction then a land loan is more appropriate.
How Does A Land Loan Work?
Loans for land are obtained in much the same way as the loan or mortgage for a house. However, as there is no property as collateral it can be hard to determine the worth of the land for the purposes of a loan.
This is riskier for lenders compared to loaning against a property and so the down payment for a land loan is higher. The interest rate on the loan will also be more than for a property loan.
Different lenders may have slightly different criteria for loan qualifications and depending on the type of land loan there are basic loan qualifications that you will need to meet.
You’ll need to have a credit score that is in the excellent range, that is 720 or higher. You will also need to have a thorough and detailed plan of what you intend to do with the land and be able to explain and justify this to potential lenders.
Checking all legal requirements for the use of the land will help you in your application. Be aware of all zoning laws, restrictions on the land use, where the surveyed boundaries are and what access there is to utilities such as power, water, and drainage.
When your lender has considered all these issues they may offer a loan at an agreed rate and obligation. The rate may be much higher than a house loan but if you have an excellent credit score and low debt to income ratio you may qualify for a lower rate.
Once the lender has offered you a land loan and the rate has been determined you will be required to make a down payment. This is the amount of money that you are paying upfront and will be a percentage of the purchase price.
Depending on the lender the percentage of down payment could be from 20% to 50%. These lenders may also charge higher interest rates, but this can depend on the type of loan you apply for.
What Is The Required Down Payment To Buy Land?
The down payment required to buy land depends on the type of land you are purchasing. This can be raw land, unimproved land or improved land.
Raw land is a riskier investment for lenders as there is little collateral to act as security against the loan. Often this is not the only reason a down payment or interest rate is higher for raw land.
As there is little in the way of development the purchase of a plot of raw land is seen as a commercial endeavor. Commercial loans attract more stringent measures including the term of the loan. These are more likely to be 10 year rather than the traditional 30-year mortgage.
Unimproved land will have some but not all services and utilities, so the down payment will be lower than for raw land. This is because an unimproved lot is less risky to a lender but still not as secure as an improved lot.
An improved lot is ready for construction with electricity, water and road access. This type of plot is less likely to be abandoned in any financial crisis.
For this reason the risk is lower for the lender and the down payment percentage is the lowest of the three types of land. The interest rate on an improved land loan will be lower too.
Types Of Land Loan
For each type of land there is a specific loan which takes into account the condition and level of development of the land.
Raw Land Loan
Raw land is a plot which has no development, this means there are no utilities or access roads to the land. Without electricity, water or roads this type of land will be noticeably cheaper to purchase but the rate of interest on any loan will be higher.
To purchase raw land for development you will have to provide a larger down payment. As a land loan represents a bigger risk for the lender the Federal Deposit Insurance Corp. has set minimum payment requirements for land loans.
For raw land the FDIC recommends a down payment of 35% of the purchase price of the land.
However, lenders can decide to apply more stringent terms. It is easier for someone to walk away from raw land if they hit financial trouble and so the risk to the lender is high.
Unimproved Land Loan
A step up from raw land is unimproved land. This plot will have access to some services but may lack others such as telephone lines or electricity meters.
Because of this an unimproved land lot will be more expensive to buy than raw land as there is less work to do to bring it up to habitable levels. For this reason the FDIC standard for a down payment on unimproved land is a minimum of 25% of the purchase price.
Improved Land Loan
A piece of improved land is the most highly developed plot with access to roads, water and electricity. Because of this it will attract a higher price than raw or unimproved lots.
However, as this type of land is less risky for lenders the interest rate will be lower. The FDIC standard for a down payment on improved land is a minimum of 15%.
However, this depends on the criteria of individual lenders. It also depends on your credit worthiness and the intended use of the land.
What Is A Down Payment For Buying Land – Frequently Asked Questions
What Is The Lowest Down Payment For Land?
For raw land the minimum down payment is 35% of the asking price. For unimproved land it is 25% and for improved land it is 15%.
What Are The Benefits Of A Down Payment?
A down payment reduces the risk to the lender. The larger your down payment the less money you will be borrowing, but it also shows that you are less of a risk.
When considering buying a plot of land you should ascertain which type it is, raw, unimproved or improved. Then you will be able to calculate the approximate down payment you may need to pay.
Paul Martinez is the founder of BendingDestiny.com. He is an expert in the areas of finance, real estate, and eCommerce.
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