A lot has been written about financing a home purchase, but what if you want to buy a plot of land? Whether you plan to build a home on the land, use it for farming or another type of business, or hold onto it as an investment, the borrowing process is different than obtaining a regular mortgage.
If you’re ready to dive in already and you’re looking for the simplest way of financing your land purchase, check out our list of the best mortgages available.
If you want to consider more creative methods of financing a land purchase, read on. We’ll tell you everything you need to know about finding the right piece of land and securing funding.
Lenders take a bigger risk on land than on homes
When you go to a bank or other lender to borrow money for a land purchase, they have to evaluate not only your credit history but also how easy it will be for them to recoup their investment if you default on the loan. While it’s relatively easy to place a value on houses or condos, and to sell them after a foreclosure, the value of and demand for a plot of land can be harder to determine.
Understanding the lender’s point of view will help you develop a stronger case for your loan request. It may also influence the plot of land you ultimately choose, and where you go for financing. We’ll discuss those options in separate sections below.
What type of land should you look for?
Before you begin your search, think about what you want to use the land for. Most plots will fall into one of two categories: improved or raw (unimproved) land.
- Improved land has been added to or otherwise altered by humans. The number of improvements will vary but they could include anything from utilities to a driveway or sewage system.
- Raw or unimproved land is in its natural state, untouched by humans. This is the hardest kind of land purchase to finance because it will be harder for lenders to re-sell after a default.
However, depending on your purpose, raw land may be what you need—if you want to start a farm, for example. You can make your application stronger with a “story” about what the land will be used for, including plans for any improvements you intend to make.
If you’re looking for land to build a home on, improved land will be easier to work with. As an investment, location is probably more important than the state of the land. If you buy land in a “hot” or developing area, your chances of turning a profit on resale will be higher.
Do your homework before you make an offer
So you’ve figured out what kind of land you need and found the plot of your dreams. This is where the process starts to get involved. You can collect this information yourself or hire a real estate agent or attorney to help you. Just make sure the person you choose has experience with land brokerage.
Here’s a checklist of things you need to know before you make an offer:
Land survey
Before you have a new one done, ask the sellers if they can provide a recent survey. The purpose of a land survey is to know exactly what the boundaries of your property are. This is especially important for land purchases, where the boundaries aren’t as easy to see as with homes in a neighborhood.
Having the land surveyed will come in handy when you start to use or build on the land. It will protect you from costly disputes with neighbors over where one person’s property ends and another’s begins.
Property easements
This is a list of people or groups (such as townships, utility companies, etc.) who have permission to enter or use part of your property. Easements can be underground, such as permission to build or extend sewer or water pipes, or elsewhere, such as the right of a cable company to run wires through your land.
Knowing what easements exist on your land will help you figure out where to build future structures or plant your organic vegetable farm.
Title search
This is how you figure out what easements are associated with your land. Also, you’ll discover the property’s history through its past deeds and any liens attached to the title.
Zoning laws
Find out what your land has been zoned for to make sure it’s usable for your intended purpose. Residential and commercial are the two most common zoning designations, but you may also need zoning for agricultural and other special land uses. Zoning may also control what you can build, such as single-family vs multi-family housing, or what you may place on the land, such as a mobile home.
Flood hazard risk
Extreme weather events seem to be on the rise, so it’s more important than ever to find out if your property is in a flood zone. Use FEMA’s free Flood Map Service Center to find out if your plot of land is at risk.
Appraisal
If you’re already working with a real estate agent, they may be able to appraise the land’s market value by comparing similar recent sales. If appropriate comps are hard to come by, you may want to hire a real estate appraiser to create a report listing all of the plot’s features and the total estimated value.
Create a land portfolio that tells your story
Once you’ve gathered this important information and agreed on a sale price, it’s time to make your pitch to a lender. Think of your land portfolio as a story about your plans for the land you want to purchase. Only in this case it’s not just a fairytale—you have to include the facts and figures lenders care about.
In addition to the background information you collected first, your land portfolio should contain:
- Your credit report and credit score, to demonstrate your eligibility for financing.
- Architect’s sketch of your construction plans (if you’re going to build a home or other structure on the land).
- Estimates on all relevant expenses such as utility installation, architect’s fees, and construction costs.
- Any profitable attributes of raw land such as the timber value of forested land.
When you borrow money to buy land, expect higher interest rates and down payment requirements than for a traditional mortgage. A land loan may also be classified as a construction or commercial loan.
If you’re buying land to build a home on, you can get a lower interest mortgage that pays off your land loan after construction is completed.
The local bank advantage
Whether or not you’re already signed up with a community bank or credit union, they should be the first lender you try on your quest for a land loan. Unlike a national bank or loan company, community banks know your town and its real estate values. They’re also more motivated to contribute to growth and development on the local level. Therefore, they are usually more willing to take a risk on lending you money to buy land.
Other financing options
If you strike out at the bank or don’t like the terms they offer, there are alternatives.
- Owner-financed loan: You draw up a promissory note with the seller outlining terms for you to pay the seller the price of the land over time.
- Government loans: Known as Single Family Housing Direct Home Loans, they are available to lower income homeowners in rural areas who cannot find other financing. These loans can be used to purchase land for building a home on.
- Home Equity: If you already own a house and have equity, you could use a second mortgage, home equity line of credit, or home equity loan to finance all or part of your land purchase.
Summary
Financing a land purchase may be more complicated than the traditional home mortgage process, but you shouldn’t feel discouraged. Find other landowners to talk to for advice and discuss your options with potential lenders.
As with any other debt you take on, you want to get the lowest possible interest rate and the most affordable monthly payment. Don’t forget to calculate the expense of property taxes and any maintenance, such as mowing.
Buying and owning land can be a very rewarding experience, even if you don’t build on it right away. Your plot of earth could turn into a valuable investment, a beloved home, an enjoyable vacation property, and/or a successful business.
