5 Ways to Finance Land With Various Loan Products

Purchasing land for investment or building your dream home can be an exciting yet complex endeavor. Understanding the various financing options available in 2023 is essential to make informed decisions before you begin the search for land to buy. Thankfully, land loan options have come a long way over the years, and we'll explore the various ways to finance a land purchase to make your rural dreams a reality. 

Before choosing a financing method, it's crucial to evaluate your financial situation, credit score, and the specific terms of each option. Consider consulting a financial advisor or a lending specialist to determine the best approach for your land purchase based on your unique circumstances. Now, let's discuss how land loans work.

The Basics of Land Loans

There are a variety of ways to finance a land purchase. A seasoned real estate professional can be a great starting point for finding land loan-friendly banks. Typically, these lenders are smaller rural area banks. They often are very acquainted with financing land purchases for customers. 

Just like any other loan, it's essential to understand the basics. Lenders typically require the last two years of tax transcripts, an acceptable debt-to-income ratio (DTI), a credit report, and a down payment of 15-30%. Some lenders can provide various loan products to 5-30 fixed-rate loans or adjustable-rate mortgages (ARM).

1. Land Loans vs. Mortgage Loans

If you've purchased a primary residence before, you're likely familiar with some of the financing processes of a real estate transaction. However, land loans and mortgage loans vary in a few ways. Traditional home mortgage loans are typically tied to a home or building, while land loans focus on raw land or undeveloped property. 

Mortgage loans generally have lower interest rates due to the collateral. In contrast, land loans often come with higher interest rates and fewer financing options due to the increased risk associated with undeveloped land. If you’re seeking rural land and there’s a house located on the property, a buyer would have a multitude of options to finance the property and likely at a lower interest rate. 

2. USDA Land Loans 

The FSA (Farm Service Agency), a subsidiary of the Department of Agriculture, can assist farmers and ranchers in obtaining financing to start, expand, or maintain a family farm. There are two types of USDA loans: direct loans and guaranteed loans. Direct loans are made directly from the FSA to the farmer. Guaranteed loans are made by the USDA-approved traditional lender, and the FSA backs the loan. It's essential to learn the various requirements for USDA land loans. It's worth noting that USDA loans are often below most lenders' interest rates but often have more requirements, paperwork, and time needed to originate a loan. 

Depending on the region, the USDA has additional options for areas that are a USDA Rural Development area. The Census Bureau classifies a rural area as a town with a population density of less than 1,000 people per square mile and surrounding areas with fewer than 500 people per square mile. Call your local FSA office and learn all possible options for financing, grants, and loans. 

3. FHA Land Loans 

Another government-backed loan is an FHA construction loan. FHA stands for Federal Housing Administration. The loan product is for buyers purchasing land to build a primary residence on the property. According to Lending Tree, potential borrowers would need a minimum credit score of 500 and a down payment of 10%. 

4. Personal Loans

Personal loans can be a viable option when buying land with limited resources. However, it's essential to understand that personal loans often have higher interest rates than land or mortgage loans. They are best suited for smaller land purchases or as a bridge loan until you secure a more favorable type of financing.

5. Seller Financing 

Seller financing can be an alternative financing option when buying land. In this arrangement, the seller acts as the lender, allowing the buyer to make payments over time instead of obtaining a traditional mortgage from a bank. Purchasing a property in this manner offers the potential for flexible payment requirements. While seller financing can offer advantages, it also has some potential drawbacks. Seller financing often allows the seller to receive a steady income stream without being subject to higher tax rates when selling a property.

A drawback to seller financing is that the seller typically retains legal ownership of the property until the buyer pays off the entire loan. The buyer has limited control over the land until the loan is fully satisfied. With the current interest rate climate, seller financing can be an excellent fit for the right seller and buyer. Many seller financing deals are off market, meaning not publicly listed on land for sale websites. One method of finding a seller financing deal would be to look up land owner data and approach the possible seller. 

Land Loan Interest Rates in 2023 

After seeing historically low-interest rates, land loans have seen a sharp increase from previous years. Generally, raw land loans tend to have higher interest rates than lot loans or loans for developed land. Shopping around and comparing rates from different lenders is advisable to secure the best deal. Currently, borrowers can expect an interest rate of 8% or higher. Even with higher interest rates than we've seen in recent years, don't let the interest rate keep you on the sidelines. If the land achieves your goals and you can afford it, consider moving forward with one of the financing options. 

Final Thoughts

Financing land is a multifaceted process that requires careful consideration of your financial situation, the type of land you wish to purchase, and the type of land loan is the best fit. Whether you opt for USDA land loans, FHA loans, personal loans, or even seller financing, it's crucial to conduct thorough research and improve your credit score to secure better terms. By understanding the intricacies of land financing in 2023, you can embark on your journey to own a piece of the beautiful rural landscapes the United States offers