This is Part 3 of the HSH Construction Loan Primer.

Part of the process is a title search, to ensure that no other party may hold a legal claim to your land. Just to be sure, however, a title insurance policy will be issued. As you may know, title insurance protects the lender, even though you pay for it. You can also, if desired, arrange for a borrower's title insurance policy.

Depending upon your equity in this loan, you may require private mortgage insurance, or PMI. This is another type of policy which protects the lender in case you default on the loan. Typically, PMI is required when you start out with less than 20% equity (or, reciprocally, as 80% Loan-to-Value) in the loan. Some lenders, however, may require PMI if your loan-to-value is 75% or more.

The builder who is arranging for the actual construction of your home will be subject to the same scrutiny. As part of the process, he will have submitted copies of the plans and blueprints, a cost breakdown covering every phase of the construction, building permits, his trade resume and references, and more.

How involved the processing is -- and how long it will take -- will depend on whether you are applying for a construction loan or a construction/permanent loan. Usually, a construction/permanent with the same lender will save time; certainly, it will save money, since you won't need two closings.

Approval and Commitment

Once all of the facts check out, you should receive word of your approval. The next step is for the lender to send you a commitment -- the legally binding contract that says you qualify for the loan or loans. The commitment lists the terms under which the lender will make the loan, including the mortgage terms, the closing requirements, and some conditions.

This is a contract, so be sure you understand it thoroughly. It will specify the interest rate, and whether it is fixed or adjustable, and it will spell out how your loan works. Be certain it contains whatever options you applied for. If the loan is to be assumable (that is, if a future buyer can take over your loan), it should say so. If your ARM is to be convertible to a FRM, it should say that too, as well as spell out exactly how that is accomplished.

Practically every commitment contains at least a few conditions, each of which must be met in order for the loan to close. Standard conditions include a list of the documents needed to close. The commitment will also specify the length of time the loan offer is good for; this can be as little as 10 days, or as long as 90 days, depending upon your circumstances.

The commitment is also dependent on circumstances not changing too drastically. The commitment could be invalidated, for example, by any adverse changes in your earning power or in your financial condition. Thus, if your spouse becomes unable to work, for example, or a large debt comes due, it is incumbent upon you to report any such changes. Keep in mind that on a construction loan, the lender will continually reverify your condition, particularly in the credit area. If it develops that the information on the commitment is not correct and verified, the lender will reject it. Depending on the severity of the situation, your loan closing could be delayed -- or it might not happen at all.

Countdown to Closing

The closing cannot take place until all of the facts have been checked, all of the documents have been filed, and all of the verifications have been received. This re-verification process doesn't end with the closing; in fact, "process" is perhaps a better term, since even after the closing you (and the builder) will continue to work closely with the lender.

About a week before closing, the lender will require the latest documents available from you, including:

• A copy of final zoning and/or planning approval for the proposed construction
• A copy of final environmental approvals, as required
• A copy of all building permits for the proposed construction
• Certification letters from utilities for water, gas, etc. (or water & perc test results for well and septic systems)
• A copy of the final specs, signed/dated by both you & the builder

When closing day arrives, your attorney and the lender's attorney should have settled every detail and exchanged every document. In fact, your major role will be as the money machine, so be certain you have the funds in hand to settle the closing costs. Some of the parties involved will require a certified or cashier's check; others will accept your personal check, so be sure you have everything you need. Typically, you'll pay for the bulk of closing costs here, and you'll begin the escrow account with a large payment. This account enables your lender to pay for your insurance premiums and property taxes as the bills come due.

One final note: so far, this account has more or less assumed that you have arranged for a construction/permanent loan. If, however, your situation has necessitated two separate loans, then you will have to go through two closings. In that case, the permanent mortgage lender will require another title search, another entire set of documents, and another set of fees to pay.

Finally! Construction Can Begin

After the loan closing, the builder can begin construction. This is typically done in various stages which follow a logical progression: the land is cleared, the foundation is excavated and poured, the framework is built, etc. In many cases, the builder does not do the work himself; rather, he employs numerous independent businesses as "subcontractors" for jobs like plumbing, masonry, wiring, framing, etc. The builder's job, in this case, is rather like the conductor of a symphony: he coordinates the many separate parts to create a finished whole.

It's also the builder's responsibility to supply the materials; the lender will reimburse him at several prearranged stages of the construction. These "disbursements" -- which, in fact, will be released to your attorney as the trustee -- will not be granted, however, until the lender performs inspections on the completed work and is satisfied as to its completion. You won't be surprised to learn that you will get the bills for these numerous inspections. Remember, too, that the town will also be sending inspectors along, and that you won't be able to receive a final Certificate of Occupancy (CO) until their inspections are satisfied as well.

The lender may also require that the subcontractors and materials suppliers sign a "waiver of lien" at each advance, since the law in many states allows them to place a lien on your property if they are not paid by the contractor or builder. The lender will also want proof that the property is always insured for the outstanding balance; this policy is known as "builder's risk," and is more comprehensive than a standard homeowner's insurance policy.

If you're working with a separate construction loan, with a permanent mortgage to follow at completion, be aware that many lenders will require title searches to be performed before every disbursement. This is their assurance that none of the subcontractors have filed liens for nonpayment of their work. This can also involve considerable expense to you.

It's not unusual for unforeseen difficulties to delay construction, or for cost overruns to crop up. The lender will want to be informed of anything that isn't going according to plan, and will want your assurance that such events won't cause the loan-to-value ratio to tip too far. It's always wise to have some additional cash in reserve for just such occasions as these.