What Is Self-Build Finance and How Does It Work?

01/09/2020

Self-build finance, often referred to as a ‘self-build mortgage,’ is a type of loan used to fund a property that the homeowner is building themselves. If you are planning on building your own property, you will have to first figure out how this will all be financed. A standard mortgage will not be able to support this, however, specialist self-build finance might.

Whether building a property yourself with the help of a few tradesmen, or taking on a larger team to do the work for you (e.g. surveyors, architects), self-build finance can be used to help fund your property in a way that standard, residential mortgages simply cannot. These mortgages also allow you to build a property (within reason) to your preferred designs and specifications, making it potentially les likely for you to need to look at home improvement mortgages or renovation loans in the future.

What Is a Self-Build Mortgage?

Self-build finance, otherwise known as a self-build mortgage, is a means of finance that helps fund the homeowner’s building of a property, as opposed to the purchase of a ready built property, as is the case for most first and second charge mortgages in the UK.

Unlike standard mortgages, a self-build mortgage enables the future homeowner to borrow money in stages, helping to fund the project as it progresses, whilst allowing the lender to lend smaller amounts, reducing the risk, as opposed to lending all the money in one go.

The Stages of Self-Build Finance

The first instalment of funds from a self-build mortgage will enable the borrower to buy the land for the property to be built on. After this, the rest of the loan will be released in set stages of the property’s development – e.g. when the foundations are laid, when the roof is finished.

With a self-build mortgage, the funds are released in instalments to reduce the risk of lending for the provider. There are a multitude of things that can go wrong in a property development project. Therefore, by releasing the funds in instalments, the lender has more control and security that their money is being spent productively.

There are well-defined stages of the self-build process which are important to understand when it comes to the stages of funding being released by your lender:

  1. Purchasing the Land – First and foremost, you must purchase the land upon which the property will be built. You will also need to make sure you are aware of any planning laws, restrictions and regulations and you will need to be granted the appropriate permissions by your local planning authority.
  2. Initial Phase and Foundations – This is the groundwork required to prepare the land for the property which is to be built. As per the purchasing of the land prior to any works, you will need to ensure you have permission for the necessary depth of foundations.
  3. Wall Plate Level or Building Frame Put Up – This is the stage where your property starts to physically take shape and the shell of the property is constructed. The precise details of this stage will depend on whether the property is prefabricated property or constructed from ‘bricks and mortar’ and timber.
  4. Wind and Water-Tightening – Here the framework is filled in, the property is protected from external elements and the ‘building envelope’ starts to take shape.
  5. First Fix – At this stage the internal walls, electrics, plumbing and gas are all put together and run accordingly. The property will start to become liveable at this stage too.
  6. Second Fix and Completion – At this stage the property will be all but complete and bar the finishing touches, the property will be complete and the funding process finished.

How Do Self-Build Mortgages Work?

When applying for a self-build mortgage, you will have to give the lender a detailed plan of how the project will be carried out. This plan should be thorough enough to give the lender security that the project will be finished, and further that the money will be repaid.

There is a lot of paperwork involved when applying for a self-build mortgage. Some of the main supporting documents you will need to give to your lender include:

Do You Need a Deposit for Self-Build Mortgages?

Whilst the deposit will vary depending on the lender, generally, most borrowers will have to put down a minimum of 25% the project’s total value. You should remember though, that a self-build mortgage, whilst not as ‘specialised’ as some other forms of finance such as bridging loans and home improvement loans, it is still a more specific form of finance and so the criteria will be stricter than a first charge mortgage.

Are Self-Build Mortgages in the UK Regulated?

Self-build mortgages and the associated finance are classed as regulated mortgage contracts. This means that they are subject to much of the same regulations which will apply to standard, first charge mortgage in the UK. this is because typically, a self-built property will be the main place of residence and the primary abode of its owner.

How Are Funds Released?

Funds from the self-build mortgage will be released at set stages of the project’s development. It is also likely that someone will be round to check that the that the project is at the correct stage to warrant the various different sets of funds.

Some lenders give out funds after a certain stage in the development has been completed, whereas others may provide funding during the start of each stage. Providing funding during the start of each stage may benefit the project, enabling the borrower to buy the necessary materials up front, and hire workers in advance.

What Happens If I Can't Repay a Self-Build Mortgage?

Self-build finance, like any other mortgage is a secured mortgage contract. This means that the lender's risk (of lending large amounts of money) are justified and reduced by securing the loan against the property in question.

In the case of self-built properties, funded by a self-build mortgage, the loan will be secured against the property throughout and at every stage of the build. Although lenders' risks are reduced by releasing money in stages, there is still the risk that a borrower will be unable to keep up with their repayments. Thus, if repayments are not made, borrowers face having the land and property repossessed by their lender.

Also important to consider is that should a borrower default on their loan or miss repayments, their credit rating will be severely impacted, which will harm their chances of being able to secure any future mortgages, credit, loans, and payment plans.

What Are the Different Types of Self-Build Mortgages?

There are two different ways a lender may release funds for the project at each specified stage. The names for these two ways are called advance and arrears:

  1. Advance – Releasing funds at the start of the development’s specified stages
  2. Arrears – Releasing funds after the end of the development’s specified stages

Advanced Self-Build Arrangements

Advanced types of self-build mortgages help to maintain the project’s cashflow, meaning the borrower does not have to use other means of short-term finance whilst waiting for instalments from the self-build mortgage provider. This method is better for those who have limited money to fund the project whilst waiting for set instalments, however, it is the least common method lenders will offer.

Arrears Self-Build Arrangements

Arrears are a more common type of method used by self-build finance lenders, providing more security that the funds are used productively, as the money is only given out once each stage is completed.

This type of finance is the more common practice used by lenders, and is best for those who have money to help maintain cashflow whilst waiting for the self-build finance funds to be released. It is important to know which type of self-build mortgage potential lenders are offering, and ensure that you have considered this in your plans for the property development.

Should I Get a Self-Build Mortgage?

One of the major advantages a self-build mortgage can offer is savings on stamp duty. Those building their own property can save thousands in stamp duty, as it isn’t applied to building work costs, or the property’s value once completed. The only duty you’ll have to pay is for the value of the land.

Once completed, many self-built homes tend to have a value considerably higher than the cost it took to build. Some homeowners also find that the funds needed for self-build finance are lower than the cost of mortgages needed to buy a house on the market.

Overall, self-build mortgages can be a great way to finance the building of your property. They can help to financially support you through this project in a way that standard residential mortgages cannot, turning your self-build property dreams into a reality.

As a mortgage is secured against your home, your home could be repossessed if you do not keep up the mortgage repayments. Think carefully before securing other debts against your home.

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