Mputla wrote to me with an interesting dilemma. He is 32 years old, married with two children. In 2016, he and his wife bought vacant land in a security estate with cash that they had saved for several years. The plan was to build within four years, using that time to save enough money to build without needing to take out a building loan from the bank.
“Currently we are saving R13 000 a month and we have about R200 000 saved,” says Mputla. “We have had plans drawn up and the building quote is R1.5 million. At our current savings rate we will not have enough money to build within four years. Should we consider going to the bank now and financing the building or wait until the fourth year to get the finance? Or should we just save until we have enough to build?”
While it is admirable to try and not incur debt, borrowing money to buy or build a home would be considered “good debt” as long as you can comfortably afford the repayment. If you wait until you had enough savings, that would take you about eight years and by then the building costs would have risen.
The key would be the amount that your bank is willing to lend to you. It should be noted that banks are more conservative with a building loan as opposed to a traditional home loan, as the risk is higher. If you were unable to complete the build for some reason and defaulted on the loan, the bank would find it very difficult to sell a half-built house to offset the outstanding debt. Hence, they will require a higher deposit.
In this case the bank approved a R940 000 loan. This would be a repayment of just under R10 000 per month. Considering that you are saving R13 000 a month already, that would be a manageable repayment and should not put you under any financial pressure. If you were able to, you could even pay a higher amount each month and pay the mortgage off sooner.
This loan, however, leaves you with a shortfall of R560 000. Either you would have to lower the specs on your building plan or save for a while longer. At your current savings rate you would need to save for another two years. The good news is that it would be in time to meet your four-year deadline.
Factors to consider when building property from scratch
Marius Marais, CEO of FNB Home Loans, offers some advice for people considering building a home from scratch and taking out a building loan.
Although the process of securing building finance differs slightly from a traditional home loan, it is still governed by the National Credit Act and the same banking policies and lending criteria still apply.
When applying, you will need to use one of the channels available and ensure you have the following documents:
- A quotation from a builder who is registered with the National Home Builders Registration Council (NHBRC)
- Building plans and a supporting schedule of finishes
- A contract between the builder and yourself
Furthermore, a minimum 10% deposit which takes into consideration the value of the land and in addition a contract amount may be required upfront.
Once the building loan application has been approved, the land has been transferred into your name and the bond has been registered, there a few important factors that you need to take note of.
- The loan will be offered in stages, through progress payments, until the building has been completed. The facility will then be converted to a normal 20-year home loan.
- Building must commence within three months after registration of the bond, and be completed within 12 months to avoid penalties.
- The building contractor should be insured for unforeseen events through Contractors All Risk Insurance Cover for the duration of the project. The onus falls on you to take out Home Owner’s Cover once the building has been completed.
- The builder must enrol the project with the NHBRC which provides a five-year warranty over structural defects from the date of occupation.
- It is your responsibility to ensure that the builder understands and complies with all the bank’s conditions of the loan.
- Prior to any progress payment being paid out by the bank, a valuer should inspect the building progress and report back to the bank.
- You can apply for progress payments at any stage during the construction process provided that sufficient work has been completed and the bank is satisfied with the progress. A maximum of six progress payments are often allowed, based on the work completed. Additional progress payments will attract a fee.
- You need to pay interest on the drawn building loan balance until the project is completed, with normal interest payable thereafter.
- Once the building work has been completed you need to confirm that you are satisfied and at this point you could provide a list of snags to be fixed. It is important that this is communicated to both the builder and the bank.
- A retention amount may be withheld in order to ensure that the builder completes the outstanding work.
It is advisable to consult an attorney prior to signing any agreements with the builder, as these can potentially work against you in future.
Should you decide to change the building contractor or make any drastic changes to the original plan, you need to inform your bank. The bank may re-assess the facility and either approve or disapprove the request, based on how it impacts the overall building costs and market value of the property.
This article first appeared in City Press.