Building a House Could Be a Risky Move Right Now. Here's Why

Don't build a house without thinking about the long-term costs of your mortgage.

Building a house can be a wonderful experience since you get to design a space that's all your own and make tons of decisions to personalize the property. But, it can also be more expensive than buying a home that's already built, and there's a risk of budget overruns due to the fact that you may decide to upgrade various components of the home or may face surprise expenses during the building process.

It's always important to make sure you have the budget to build a house and to be confident that you will be able to afford the mortgage payments once the property is finished. And that's one big reason why building a home right now could be a risky move. 

This is the big risk that home builders face right now 

If you are thinking about building a home now, the big risk you face is that you could end up with a much more expensive mortgage once your home is finished.

See, there are a few different ways to finance a new build. One option you have is to take out a construction loan that funds the cost of the build and then to take out a permanent loan once the construction has been finished. The permanent loan will pay off your construction loan, which only financed the build. In this situation, you have to apply for an entirely new loan once the construction is complete.  

The problem is that mortgage interest rates have been increasing rapidly this year and that trend is expected to continue -- especially as the Federal Reserve has indicated it will be raising the benchmark interest rate again in the future to help fight inflation. If your final loan to pay off your construction loan comes at a much higher rate than is available now, your monthly payments could be much higher for that loan and your total financing costs could be much more expensive. 

You do have another option, called a construction-to-permanent loan. This allows you to work with a lender that approves you both for the construction loan and the final loan used to repay it. Often, this allows you to go through just one loan application and closing process. 

However, while some lenders allow you to lock in your future loan rate for the final loan, not all do. And if you are allowed to lock in the final rate, then the rate you pay for both the construction and permanent loan will usually be higher than the prevailing rate at the time you apply to borrow. You may also have to pay a fee to lock in the final rate.  

So, no matter which option you choose, you face the risk that you'll end up with a mortgage you have to pay for decades that's at a pretty high rate -- and that has higher interest costs than you'd likely pay if you just bought a home now and got a loan for it. 

Should you build a home anyway? 

Whether you should build a home is a personal decision. If you decide to move forward, you should do so with the knowledge that you could end up with a costly loan and you'll want to make sure you can afford the payments even if rates rise by the time your house is done.