Financing a custom home build is a different animal than financing a home purchase, and plenty of people walk into the process without realizing that. A construction loan in Texas for a custom home works differently from a traditional mortgage — different structure, different timeline, different lender requirements, and a different approval process. If you don’t understand how it works before you start, you can run into real problems mid-build. Here’s a straightforward breakdown of everything you need to know about construction loan financing for your custom home.
What Is a Construction Loan?
A construction loan is a short-term loan that funds the building of a home before it’s complete. Unlike a traditional mortgage — where you borrow against an existing property — a construction loan finances a home that doesn’t yet exist. Lenders treat this as higher risk, which affects the terms.
Key characteristics of a construction loan:
- Short loan term: Construction loans are typically 12 months in duration, though some lenders offer 18-month terms for complex projects.
- Interest-only payments during construction: During the build, you only pay interest on the funds that have been drawn (disbursed), not on the full loan amount. This keeps monthly payments manageable while your home is being built.
- Higher interest rates: Construction loans generally carry higher rates than permanent mortgages, typically prime plus 1–2% or a fixed rate in the 7–10% range depending on market conditions and your credit profile.
- Down payment requirement: Most lenders require 20–25% down on construction loans. Some programs allow less, but a strong down payment improves your rate and approval odds.
For a deeper intro to custom home financing before diving into loan types, our Custom Home Financing 101 guide covers the foundational concepts well.
Construction-to-Permanent Loans: The One-Close Option
The most popular financing approach for custom home builders today is the construction-to-permanent loan — often called a “one-time close” or “OTC” loan. This product combines the construction loan and the permanent mortgage into a single transaction.
How It Works
- You qualify for and close on a single loan before construction begins.
- During construction, the loan functions as a construction loan — funds are disbursed in draws as construction progresses, and you pay interest only on drawn amounts.
- When construction is complete and a certificate of occupancy is issued, the loan automatically converts (or “rolls over”) to a standard mortgage with your pre-agreed permanent rate and terms.
Advantages of the One-Close Approach
- One closing, one set of fees: You only pay closing costs once instead of twice.
- Rate lock options: Some lenders allow you to lock your permanent rate at the time of the initial closing, protecting you from rate increases during construction.
- Simpler process: One approval, one appraisal, one title search.
Potential Downsides
- You’re locking into a rate and terms before the home is built — if rates drop significantly during construction, you don’t benefit unless you refinance later.
- OTC loans have stricter qualifying requirements because the lender is underwriting both the construction risk and the long-term mortgage at once.
Two-Close Construction Loans: More Flexibility, More Complexity
A two-close construction loan separates the construction financing from the permanent mortgage into two distinct loan transactions. You close on the construction loan first, build the home, then close on a separate permanent mortgage once construction is complete.
- More flexibility: You can shop for the best permanent mortgage rates when construction completes rather than locking them in today.
- Two closings, two sets of costs: Expect to pay closing costs twice. Budget $5,000–$15,000 in additional closing costs for the second transaction.
- Re-qualification required: You’ll need to qualify for the permanent mortgage when construction ends. If your financial situation changes during the build, this could be an issue.
Two-close loans tend to make sense for buyers who want maximum flexibility on their permanent mortgage, or who are in situations where their financial profile may improve between start and completion of construction (for example, someone expecting a significant income change).
Understanding Draw Schedules
Whether you have a one-close or two-close construction loan, understanding the draw schedule is critical. The draw schedule is the plan for how loan funds are disbursed to your builder throughout construction.
How Draws Work
- Draws are typically tied to construction milestones: lot acquisition, foundation, framing, rough-ins, drywall, finish work, and completion.
- Before each draw, the lender sends an inspector to verify that the milestone has been completed and the draw is appropriate.
- Your builder submits a draw request, the inspection is completed, and funds are released — typically within three to seven business days.
- You pay interest on drawn funds, not the total loan commitment. So if you’ve drawn $200,000 of a $600,000 loan, you’re only paying interest on $200,000.
Managing Cash Flow During Construction
One area where projects run into trouble: your builder needs to be funded to pay their subcontractors. Draw delays — caused by slow inspections, incomplete draw requests, or lender processing backlogs — can create cash flow gaps that slow construction. Choose a lender with a track record of efficient draw processing, and make sure your builder has experience managing the draw process smoothly.
Down Payments and Land Equity
If you already own the land you’re building on, that equity often counts toward your construction loan down payment. This is a meaningful advantage for buyers who purchased land in advance.
- The lender will appraise the land at current market value.
- Your equity in the land (its value minus any debt secured against it) is credited toward the required down payment.
- If the land is paid off and appraised at $150,000, and your lender requires a 20% down payment on a $600,000 total project, your land equity may cover your entire down payment requirement.
This is one of the reasons buying land in advance — even a year or two before you’re ready to build — can be a smart financial strategy in the Hill Country. Land values in the Dripping Springs and Austin area have appreciated considerably, and that appreciation builds equity you can leverage when you’re ready to build. For a detailed look at what your custom home might cost, see our post on custom home build costs in Dripping Springs.
What Lenders Need From You
Construction loan underwriting is more involved than standard mortgage underwriting. Be prepared to provide:
- Signed builder contract: Your lender needs to see the executed contract with your builder, including the total price and scope of work.
- Construction plans and specifications: Most lenders require a complete set of architectural plans and a detailed spec sheet covering materials and finishes.
- Builder credentials: The lender will vet your builder — license status, insurance certificates, and sometimes a credit check and financial references. Working with an established, reputable builder like Ridge Rock Builders makes this process smoother.
- Appraisal of the completed home: The lender commissions an appraisal based on the plans and specs. The loan amount is based on the lesser of the total project cost or the appraised value of the completed home.
- Your financial documentation: W-2s or tax returns, bank statements, credit history — the same documents you’d prepare for any mortgage application, plus reserves to cover cost overruns.
Finding the Right Lender for a Texas Custom Home Build
Not all lenders offer construction loans, and among those that do, experience and service quality vary enormously. Look for a lender with:
- A dedicated construction lending team (not just a mortgage officer dabbling in construction loans)
- Familiarity with the Texas Hill Country market and typical build costs
- Efficient draw processing and a clear draw inspection protocol
- Positive references from builders and past borrowers
Local and regional banks, credit unions, and specialty mortgage companies often offer better construction loan terms and service than big national lenders. Texas-based lenders like Amplify Credit Union, Hill Country Community Bank, and others with Texas Hill Country experience are worth exploring. Your builder can typically recommend lenders they’ve worked with successfully.
When you’re ready to start the planning process, get a free build estimate from Ridge Rock Builders so you have concrete numbers to bring to your lender conversations.
Frequently Asked Questions: Construction Loans and Financing a Custom Home in Texas
What credit score do I need for a construction loan in Texas?
Most lenders require a minimum credit score of 680–720 for a construction loan, with the best rates reserved for borrowers with 740+. Because construction lending carries higher risk than standard mortgages, underwriting standards are generally stricter. If your score is below 700, work on improving it before applying — even a small rate improvement on a $600,000 construction loan saves tens of thousands of dollars over the loan term.
Can I act as my own general contractor to save money?
Some lenders allow owner-builder construction loans, but they’re increasingly rare and typically require you to prove substantial construction experience. More importantly, acting as your own GC while trying to manage the dozens of subcontractors, permits, schedules, and inspections involved in a custom home build rarely saves as much money as people expect — and mistakes are expensive. Most buyers are far better served by working with an experienced local builder who carries the risk and manages the process.
What happens if my construction costs go over budget?
Construction loans are issued for a fixed amount. If your build runs over budget, you’ll need to cover the difference out of pocket, negotiate a change order with your builder that stays within the loan amount, or — in some cases — request a loan modification. This is why having a 10–15% contingency reserve built into your total project budget is strongly recommended. It’s also why choosing a builder with a strong track record of delivering on budget matters enormously.
How is a construction loan appraisal different from a standard appraisal?
Because there’s no completed home to appraise, the lender’s appraiser evaluates the plans, specifications, and proposed location to estimate the “as-completed” value. This is a subject-to appraisal — it tells you what the home should be worth when finished. If the appraised value comes in lower than your total project cost, your lender may reduce the loan amount, which means you’d need to cover the difference or reduce the scope of the project.
Do I need to own the land before applying for a construction loan?
Not necessarily. Many construction loan products allow the land purchase to be rolled into the construction loan at the time of closing. However, if you already own the land, that equity typically counts toward your down payment requirement, which can significantly reduce the cash you need to bring to closing.
How long does the construction loan approval process take in Texas?
Expect 30–60 days from application to loan closing for a construction loan. The process is longer than a standard mortgage because of the additional documentation requirements (builder contract, plans, specs, builder vetting, as-completed appraisal). Start the lender conversation early — ideally before you’ve finalized your builder contract — so the financing doesn’t hold up your construction start date.
Ready to Start Your Project?
At Ridge Rock Builders, we specialize in custom homes, remodels, barns, shops, and casitas throughout the Texas Hill Country. Whether you’re still exploring your options or ready to break ground, we’d love to talk.
Get a free build estimate or call us at (512) 294-9579 to start the conversation.