Can someone explain to me how using land as a down payment for building a home works?

My understanding is the land will be rolled into the value of the home and lower your LTV. This will do absolutely nothing to “lower your mortgage payment” except that it may preclude you from paying PMI.

Your mortgage payment is based on the cost to build the home. Usually the land cost is also included but since yours is already paid for, that’s not a part of your “cost” (ie your loan amount), but it will be included in your “value” (ie your appraisal).

From my understanding when I was considering buying land for a build. The land is basically collateral. It can be used as a down payment but can not lower your loan. Example: Your land is worth $50k. You want to build a $250k house. You could use your land as a down payment (no money out of pocket) for your down payment, meet the 20% requirement to drop PMI, but you’ll still owe $250k on the loan. When you close you will automatically have $50k equity from the land.

From my experience some banks appraise land differently and may not allow 100% of the land value to be used.

As long as the land is worth ‘x’ % of the cost of dwelling lender requires its no different than cash

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In this example, you would owe $250K with FMV of $300K ($250K in structure plus $50K in land). That's a LTV of 83.3%. You may be able to find someone that will write a loan with no PMI, but usually the banks want to see no more than 80%.

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So if you have to pay off the $50k in land are you better off to just pay the PMI instead of going that route?

I can help with this and feel free to call me if you need further explanation than this: 225-975-3014

First you calculate the houses "Expected Value" which is as simple as adding the Land Value + Cost to Build. You can get a cost to build estimate from the builder. Typically lenders require 10% down on Contruction; which is the same as saying Max 90% Financed (like me; I work for EFCU Financial a Credit Union in Louisiana that does Land / Construction Loans).

So if you have Equity in the Land, you subtract it from the down payment obligation. Here is an example:

Land Valued at $100k
Land Loan Bal at $55k
Cost to Build at $250k

$100k + $250k means we expect the house to appraise for at least $350k once complete, right?

So 10% down of $350k is $35,000... Meaning if you only owe $55k on that Land that's worth $100k then you have $45k that will take care of the downpayment.

In this example, you'd bring NOTHING to the table to close on your construction and get the building process started. Because the Equity would eat up all of the closing costs and 10% down payment.

Josh Romine
EFCU Financial
225-975-3014