How does a construction loan work?

A construction loan funds home building in draws as work is completed. During construction you pay interest only on the amount drawn. When complete, the loan converts to a permanent mortgage — a construction-to-permanent or C2P loan.

What are interest-only payments during construction?

During construction you pay interest only on the outstanding balance as funds are drawn. Since draws happen over time, you start with small payments and they grow. On average you pay interest on about half the loan amount during the build period.

How much down payment is needed for a construction loan?

Construction loans typically require 20–25% down on the total project cost (land + construction). Some programs allow as little as 5–10% for well-qualified borrowers, but 20% is most common.

What is a construction-to-permanent loan?

A construction-to-permanent loan (C2P) is a single loan that funds construction then automatically converts to a permanent mortgage when the home is complete. It saves you closing costs vs. a stand-alone construction loan plus a separate permanent mortgage.

Can I lock in the permanent rate at the start?

Many lenders offer rate locks on the permanent portion at the time of application. This protects you from rising rates during your build. Some charge a fee for this option. It can be very valuable in a rising rate environment.

Construction Loan Calculator

Estimate interest-only payments during your build phase and your permanent mortgage payment after completion. Includes total project cost breakdown.

Land Cost

Construction Cost

Down Payment

$20%

Construction Rate

Permanent Rate

Construction Period

Permanent Loan Term

Permanent Monthly Payment

$2,129

After construction completes · $320,000 loan · 7.00%

Down Payment: $80,000

Loan Principal: $320,000

Construction Interest: $13,600

Permanent Interest: $446,428

Total Project Cost

$400,000

Loan Amount

$320,000

Monthly Interest During Build

$1,133

Total Construction Interest

$13,600

Total Permanent Interest

$446,428

Total All-In Cost

$860,028

How to Use This Construction Loan Calculator

Enter your land cost, construction budget, and financing details to see both your construction-phase interest payments and your permanent mortgage payment.

Land Cost & Construction Cost

Enter the purchase price of the lot and the total contracted build cost (including permits, materials, and builder profit). These combined form your total project cost — the basis for your loan amount and down payment calculation.

Construction vs. Permanent Rate

Construction loans typically have a higher rate during the build phase (often tied to prime rate). When the home is complete, the loan converts to a permanent mortgage at a lower, fixed rate. Enter both rates to see the full cost picture.

Interest-Only During Construction

During construction, lenders disburse funds in "draws" as work is completed. You pay interest only on funds drawn — not the full loan amount. This calculator assumes an average balance of half the loan during the build period, which is a reasonable approximation for a standard draw schedule.

Construction Loan Interest Formula

Construction Phase (Interest-Only):
Avg. Outstanding Balance = Loan Amount ÷ 2
Monthly Interest = Avg. Balance × (Construction Rate ÷ 12)
Total Construction Interest = Monthly Interest × Construction Months

Permanent Phase (Amortizing):
Monthly Payment = P × [r(1+r)^n] / [(1+r)^n - 1]
Where P = full loan amount, r = permanent rate ÷ 12, n = term × 12

Example: $400,000 total project, $80,000 down = $320,000 loan. At 8.5% construction rate for 12 months: avg balance $160,000, monthly interest $1,133, total construction interest $13,600. Then converts to 30-year at 7.0%: permanent payment $2,129/mo.

Example: Custom Home Build in Tennessee

The Hendersons Build Their Forever Home

A family buys land for $80,000 and contracts a builder for $320,000. They have $80,000 saved for a 20% down payment on the $400,000 project.

Land Cost	$80,000
Construction Cost	$320,000
Total Project	$400,000
Down Payment (20%)	$80,000
Loan Amount	$320,000
Construction Rate	8.5% (12 months)
Monthly Interest During Build	~$1,133
Total Construction Interest	~$13,600
Permanent Rate	7.0% (30-year fixed)
Permanent Monthly Payment	$2,129
Total Permanent Interest	$446,400

The C2P loan structure means only one closing — saving the Hendersons $3,000–$5,000 in duplicate closing costs versus a stand-alone construction loan plus a refinance.

Frequently Asked Questions

A construction loan funds home building through a series of draws disbursed at key milestones — foundation, framing, drywall, completion, etc. Your lender sends an inspector to verify progress before each draw. During construction you pay interest only on the amount drawn. When the certificate of occupancy is issued, the loan converts to a permanent amortizing mortgage.

A stand-alone construction loan must be refinanced into a permanent mortgage after construction — two closings, two sets of closing costs. A construction-to-permanent (C2P) loan is a single loan that automatically converts, saving you one closing. C2P is more common and usually the better choice unless rates drop significantly during your build and you want to shop for the best permanent rate at completion.

Most lenders require 20–25% down on the total project cost (land + construction). If you already own the land free and clear, its equity may count toward your down payment. FHA and VA construction loans allow lower down payments (3.5% and 0% respectively) but have other requirements and limitations.

Cost overruns must be covered out of pocket — lenders rarely increase the construction loan mid-build. That's why it's essential to add a 10–15% contingency buffer to your construction budget. Work with a reputable builder who provides a fixed-price contract, and review draw disbursement conditions carefully with your lender before breaking ground.

Yes, many C2P lenders offer a rate lock on the permanent phase at the time you close on the construction loan. This protects you from rate increases during a 12–18 month build. Some lenders charge 0.125–0.25% in points for an extended lock. Given how much rates can move, this protection is often worth the cost.