Recreational Land Loans: What You Should Know

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If you want to buy land, chances are that you won’t be able to get a mortgage on it. Lenders really try to avoid financing land because the lack of collateral they will receive. If there isn’t a home on the land, it’s not worth much to the lender, which could put the lender at risk for a serious loss.

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Instead, you will need a land loan. A land loan is different than a mortgage. It has different terms, including the required down payment, credit requirements, and the actual term of the loan. Keep reading to learn about these loans to see if they are right for you.

The Risk of Land Loans

First, it helps to understand the risks lenders take when they lend you money to buy land. This pertains to both undeveloped land that you don’t intend to develop and land that you do intend to build a house on some day.

The largest risk is the ease at which you can walk away from the land. If you can’t afford the payments, you can walk away and still have somewhere to live. You don’t live on the land, so there’s not that sense of urgency to keep up with the payments when things get tough.

Next, land is hard to sell. This pertains to you, the owner selling it, or the lender trying to sell it off after taking possession due to default. Buyers don’t want land in most cases. They want land and a house. Unless they are in the market to build a custom home, the demand for vacant land just isn’t going to be there.

What You Need to Qualify for a Land Loan

Just like if you were to buy a house, you’ll have to prove to lenders that you qualify for a land loan. You’ll need to provide the following:

  • A good credit score – The actual score you will need varies by lender. Check with various lenders to see what credit scores they want to see for land loans.
  • A list of what you plan to do with the land – If you are buying unimproved or raw land, you need to let the lender know your plans with it. Are you going to build a home on it someday? Are you just buying it for an investment?
  • A sketch of your plans – If you have plans to build on the land, you’ll need a professional architect to sketch the plans for you. This helps the lender see what you plan to do so that they can decide if it’s a good risk.
  • Proof of income – Just like any other loan, you’ll need to prove that you qualify for the loan. Plan to provide your lender with your paystubs covering the last month, W-2s covering the last 2 years, and possibly your tax returns too.
  • Proof of assets – You are going to need a large down payment on the land, so you will have to prove where the funds are coming from. Plan on providing at least the last 2 months of bank statements, but some lenders may require more.

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The Down Payment

The amount of money you must put down on the land depends on its type. Are you buying raw land? If so, this is a big risk for the lender. If the land is completely raw, meaning none of the electricity, septic, or well has been set up, there could be a lot of headaches coming your way, not to mention a lot of fees to get everything up to code. This could cause a delay in your plans to build on the home. It may even cause you to jump ship and walk away from the land.

Because of the risk of raw land, you can expect to need a large down payment. Just how much will vary by lender, but upwards of 30% to 40% is not unusual.

If you are buying land in a subdivision, you may be faced with more relaxed guidelines. Lenders know that you are more likely to follow through on your financing and eventually build a home. If you don’t, it’s much easier for the lender to sell land within a subdivision because the new owners would likely want to build a home on it. You may be able to put down as little as 10% to 20% on land in a subdivision.

Shopping for a Land Loan

When you shop for a land loan, you’ll find that it’s not as easy as it is to find a mortgage lender. You may want to start with lenders in your area. These lenders know the value of the land and the demand for it. They may be more willing to finance your purchase and may even have special programs for it.

If you can’t find a local lender, you can try finding a lender online, but your chances of finding a willing lender may be small. Instead, you have a couple of other options:

  • Owner financing – Don’t hesitate to ask the owner of the land if they would be willing to finance your purchase. Unless the seller is in a big hurry to get his money back, he may be willing to accept payments from you, just as you would pay a bank. You still go through all of the proper channels to make the loan official, but you pay the owner rather than a bank.
  • Home equity – If you own a home now and have equity in it, you may be able to use it to buy the land. You can take out a home equity line of credit or even a cash-out refinance. You can then use the funds to buy the land outright. Remember, though, your home is the collateral for this loan, so make sure it’s a loan that you can afford.

The bottom line is that you are going to face tougher underwriting guidelines when you buy land. You are also probably going to have a harder time finding a lender. It’s to your advantage to ensure that you have great credit, a high down payment, and a low debt ratio. The fewer risks you pose to a lender, the more likely they are to take a risk on you buying land.

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