October 3rd, 2018 10:46 AM by Devin Murray
PART I of IV – Can I use my land equity and how much will be counted?
After writing tens of millions of dollars in construction-to-permanent loans for over 15 years we continue to find that a clear majority of consumers do not know if they can use lot or land equity towards a down payment on their construction loan. This topic is directly associated with down payment requirements for construction-to-perm loans, which we will address in separate article. For those who even know to ask, many are confused about the rules of using the equity (the “how to”) and most importantly of all why being able to maximize that equity is important even if you have a healthy down payment. To clear-up these very muddy waters in the mortgage world, we are going to answer to answer the “can I use it” question to see where you fit into this picture and end this post on how we would calculate and apply it to your new loan. We will follow-up with a second post about why it matters, a third on how to maximize it, and a forth for those who don’t own but are planning long term.
For ease of discussion, let’s use the word “land” to represent a vacant residential lot or plot of land up to say 10 acres (see here for land size restrictions). Also, let’s assume that you and/or a co-borrower are the current owner of record with a recorded deed in place. With all this being said, if you want to know if can use your land equity and want to calculate how to apply that equity to your construction-to-permanent you must know the answers to three simple questions 1) when did you buy or have the lot/land gifted to you? 2) how much did you pay? 3) what is owed on the lot/land?
In the mortgage world we first look the time frame one or more borrowers have been on a recorded deed to land to calculate equity. The industry jargon is “seasoning” of your ownership. If you purchased your lot/land inside of four months for conventional loans, six months for FHA, or twelve months for VA we will use the original purchase price of the land as a best-case baseline to determine any equity regardless if it appraises for double or triple what you paid for it. This seasoning time frame is calculated from the courthouse recording date on your deed to the day you sign your loan application. The appraised value of the land if any exists is then determined with a construction-to-permanent appraisal.
For example, if you paid $50,000 one month ago, you owe $40,000 today but it appraises for $60,000 we in the industry would only count $10,000 in equity towards your down payment in lot equity. If you are going conventional and can wait a few months until you reach the four-month threshold before you sign your loan application the full $20,000 can be counted toward your down payment. The truth is the construction planning process takes several months to start so if you are going conventional or FHA waiting to reach the time frame required is inherently easy.
Meeting these land seasoning requirements to count land equity towards a down payment is most significant for borrowers who have land given to them or potentially acquire land at a substantial discount. Using the same logic above, if a family member deeds you land, or you buy it for many thousands below what it is actually worth, we (the industry) can only count what the deed reflects it was sold inside the seasoning time frame. This means that if someone sold you land a deep discount one month ago for $5,000, you owe $0 today, and it appraises for $60,000 we can only count $5,000 in seasoned equity unless you wait 4 months for conventional, 6 months for FHA, or 12 months for VA to apply for your construction-to-permanent loan. Once you wait the required seasoning times the full $60,000 of equity per the appraisal would be counted towards your down payment.
Probably the most common scenario is where a family member deeds land to another family where the consideration or price is $0 because it was a gift. Just as in the above examples before none ($0) of the equity can be applied until you or a co-borrower are seasoned on title beyond the four, six, or twelve-month windows respectively.