Buying land allows you to build the home of your dreams or preserve a slice of nature. However, land can be expensive, so you may need a loan to fund your land purchase. Although you might assume that land is a safe investment—after all, “they’re not making any more of it”—lenders see land loans as risky. As a result, the approval process can be more cumbersome than standard home loans.
The ease and cost of borrowing depend on the type of property you’re buying:
- Land that you intend to build on soon
- Raw land that you don’t expect to develop
Land loans can be relatively short term loans, lasting two to five years before the balloon payment is due. However, longer-term loans exist (or you can convert to a long-term loan), especially if you’re building a residential home on the property.
- Lenders are often most willing to lend if you buy a finished lot or plan to build on the land you buy, because that adds value to the property.
- Local banks, credit unions, or a second mortgage on your home are good sources of funding if you are not planning to build on the land you buy.
- Other sources of funding include commercial lenders, specialized lenders, or financing from the current owner.
- You will need to get a survey of the land, check the title, and budget for additional costs such as taxes, insurance, building costs, and permits.
Buy and Build in One Step
Lenders may be most willing to lend when you’ve got plans to build on your property. Holding raw land is speculative. Building a structure is also risky, but banks could be more comfortable if you’re going to add value to the property (by adding a home, for example).
You might be able to use a single loan to buy the land and fund construction. That approach allows you to suffer through less paperwork and fewer closing costs. What’s more, you can secure funding for the entire project (including completion of the build). You won’t be stuck holding land while you look for a lender that might never materialize.
To get approval for a construction loan, you’ll need to present plans to your lender, who typically wants to see that an experienced builder is doing the work. Funds will be distributed over time as the project progresses, so your contractors will need to follow through if they expect to get paid.
The Loan Features
Construction loans are short-term loans, often featuring interest-only payments and lasting less than one year. (Ideally, the project will be completed by then.) After that time, the loan may be converted into a standard 30-year or 15-year loan, or you’ll refinance the loan using your newly built structure as collateral.
To borrow for the land and construction costs, you’ll need to make a down payment.
Plan to come up with 10% to 20% of the future value of the home. You can experiment with the numbers using our mortgage payment calculator.
Finished Lots vs. Raw Land
If you’re buying a lot that already has utilities and street access, you’ll generally have an easier time getting approved.
You can finance raw land, but lenders may be hesitant (unless that’s typical for your area—for example, some areas rely on propane, wells, and septic systems). It’s expensive to add things like sewer lines and electricity to your property, and there are numerous opportunities for unexpected expenses and delays.
If you’re buying a lot (in a developing subdivision, for example), you might be able to put down as little as 15% or 25%. For raw land, plan on a minimum of 30% down, and you may have to bring 50% to the table to get approved.
Finished lots are less risky for lenders, so they’re more likely to offer single-step construction loans that convert to “permanent” (or 30-year) mortgages after completing construction. With unfinished lots, lenders tend to keep loan terms shorter (five to ten years, for example).
Reducing Lender Risk
If you’re buying raw land, you’re not necessarily going to get a bad rate. You can improve your chances of getting a good deal if you help the lender manage risk. It may be possible to get longer-term loans, lower interest rates, and a smaller down payment requirement. Factors that help include:
- A high credit score (above 680) shows that you’ve successfully borrowed and repaid debts in the past.
- Low debt-to-income ratios indicate that you have sufficient income to make required payments.
- A small loan amount results in lower payments and a property that is most likely easier to sell.
No Plans to Develop
If you’re going to buy land without plans to build a home or business structure on the land, getting a loan will be more difficult. However, there are several options to obtain funding.
Local Banks and Credit Unions
Start by inquiring with financial institutions located near the land you plan to buy. If you don’t already live in the area, your local lenders—and online lenders—can be hesitant to approve a loan for vacant land. Local institutions know the local real estate market. They may have an interest in facilitating sales in the area where you’re looking. Although local institutions may be willing to lend, they may still require up to 50% as a down payment and relatively short-term loans.
If you have significant equity in your home, you may be able to borrow against it with a second mortgage. With that approach, you could potentially fund the entire cost of the land and avoid using additional loans. However, you’re taking a significant risk using your home as collateral. If you’re unable to make payments on the loan, your lender can take your home in foreclosure.
Interest rates on a home equity loan could be lower than rates on a land purchase loan, but you would be putting your home at risk.
Especially if you’ll use the property for business purposes or an investment, commercial lenders might be an option. To get approved, you’ll need to convince a loan officer that you’re a reasonable risk. Repayment might only last ten years or less, but payments might be calculated using a 15-year or 30-year amortization schedule. Commercial lenders might be more accommodating when it comes to collateral. They might allow you to make personal guarantees with your residence, or you might be able to use other assets (like investment holdings or equipment) as collateral.
If you can’t get a loan from a bank or credit union, the property’s current owner might be willing to finance the purchase. Especially with raw land, owners might know that it’s difficult for buyers to secure financing from traditional lenders, and they might not be in a hurry to cash out. In those situations, landowners typically get a relatively large down payment, but everything is negotiable. A 5- or 10-year repayment term is common, but the payments may be calculated using a longer amortization schedule. One benefit of owner financing is that you won’t pay the same closing costs you’d pay traditional lenders (but it’s still worth paying to research the title and boundaries—even honest landowners can make mistakes).
If you’re just waiting for the right time to build, or you’re picking a design for your house, you’ll probably have to use the solutions above. But if you have unusual plans for your property, there may be a lender that focuses on your intended use for the land. Unlike banks (working with people building houses, for the most part), specialized lenders make a point of understanding the risks and benefits of other reasons for land ownership. They'll be more willing to work with you, because they don't have to figure out a one-off deal. These lenders may be regional or national, so search online for whatever you have in mind. For example:
- Conservation of natural resources
- Outdoor recreation on private property
- Solar or wind farms
- Cellular or broadcast towers
- Agriculture or livestock use, including ranching, organic farms, hobby farms, and horse boarding
Tips for Buyers
Do your homework before buying land. You might see the property as a blank slate full of potential, but it’s easy to get in over your head.
In addition to a purchase price, you may have to pay closing costs if you get a loan. Look for origination fees, processing fees, credit check costs, appraisal fees, and more. Find out how much you’ll pay, and make your final financing decision with those numbers in mind. For a relatively inexpensive property, closing costs can add up to a substantial percentage of the purchase price.
Get a Survey
Don’t assume that current fence lines, markers, or “obvious” geographic features accurately mark a property's boundary. Get a professional to complete a boundary survey, and verify it before you buy the property. Current property owners might not know what they own, and it’ll be your problem after you complete the purchase.
Check the Title
Especially if you’re borrowing informally (using your home equity or seller financing, for example), do what professional lenders do—get a title search. Find out whether there are any liens or other issues with the property before you hand over money.
Budget for Other Costs
Once you own the land, you could be on the hook for additional expenses. Review those expenses in addition to any loan payments you’ll make for the land. Potential costs include:
- Municipal or county taxes (check with your tax advisor to see whether you qualify for a deduction)
- Insurance on vacant land or abandoned buildings
- Homeowners’ association (HOA) dues, if applicable
- Any upkeep required, such as repairing fence lines or managing drainage
- Building costs, if you ever decide to build, add services, or improve access to the property
- Permit fees, for any activity you have planned for the property
Know the Rules
When you see vacant land, you might assume that anything is possible. However, local laws and zoning requirements might limit what you can do—even on your own private property. HOA rules can be especially frustrating. Speak with local authorities, a real estate attorney, and neighbors (if possible) before you agree to buy.
If you discover any issues with a property you have your eye on, ask about making changes. You might be out of luck, or you might be able to do what you want after following the proper procedures. (Sometimes filling out paperwork and paying fees is all it takes.) It could be easiest if you ask for permission instead of upsetting your neighbors.