How Does A Construction Mortgage Work?

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Building your own home or buying one from a custom builder will likely require taking out a construction mortgage.

Construction mortgage loans are an entirely different ball game than typical residential mortgages. Before you take a swing at building your own home, it’s important to know the rules.

What is a construction mortgage?

A construction mortgage, sometimes referred to as a builders mortgage, is a way to fund the purchase of a home that may not exist yet. A construction mortgage can be used whether you’re building a property yourself or purchasing a custom-built home from a developer.

(Some lenders may use the terms “construction mortgage” and “builder’s mortgage” interchangeably, while others consider them distinct types of loans.)

Like a residential mortgage, a construction mortgage loan requires a down payment and can come in fixed or variable-rate options.

In some cases, a construction loan will automatically convert to a traditional mortgage once building is complete and a certificate of occupancy has been obtained.

How a construction mortgage works in Canada

The main difference between a construction mortgage and a more traditional type of mortgage is the way the funds are paid out.

Unlike a typical mortgage, which is paid as a lump sum on closing day, a construction mortgage is paid out in smaller increments, or “draws,” as each phase of construction is completed.

While a construction loan is in the draw phase, some lenders may only require you to pay interest on the amount borrowed. Once construction is done, payments of both principal and interest will be required.

When financing a build with a construction mortgage, inspections are required at each step before the next draw will be approved. The borrower is generally responsible for the cost of these inspections, although some banks may deduct the progress and inspection fees from each draw.

Sample draw schedule for a construction mortgage

Draw	Required percentage of completion	Construction state	% of total mortgage amount advanced
#1	15%	Excavation and foundation completed.	15%
#2	40%	Roof is on and the building is weather-protected with access secured.	25%
#3	65%	Plumbing and wiring have been started. Drywall and plaster are completed. A furnace has been installed, exterior wall cladding has been completed.	25%
#4	85%	Kitchen cupboards have been installed, bathrooms are completed, doors have been hung.	20%
#5	100%	Ready for occupancy. Seasonal and exterior work have been completed.	15%

How to get a construction mortgage

Construction mortgages are not as widely available as mortgages to purchase an existing home. It may be harder to find a construction mortgage offered by smaller lenders, such as credit unions, or in certain provinces.

Progress draw construction mortgages are also more complicated and require a lot of steps and checks along the way. For this reason, it’s wise to find a mortgage broker or bank that is familiar with this type of mortgage and can guide you through the process and explain all the steps.

Since construction mortgages do come with more risk, you may have to meet stricter requirements to get approved. This goes beyond the typical minimum credit score and reliable income that is required for a traditional mortgage.

Lenders also need to be assured that the project will be completed within a certain time frame and that the builders are licensed and have a history of well-built homes, among other things. A larger down payment, like 25% to 30% of the total mortgage amount, may be required to be approved for a construction mortgage.

Examples of construction loan providers in Canada

Credit Unions. Meridian Credit Union and Conexus Credit Union offer construction mortgage loans to home builders in Ontario and Saskatchewan, respectively.
CMHC. The Canada Mortgage and Housing Corporation provides construction loans for investors building apartments and affordable housing units.
Equitable Bank. Equitable Bank provides funding for homeowners interested in adding laneway homes to their properties.
Big Six banks. Some of Canada’s major financial institutions provide construction mortgages.