A construction loan is a short-term loan used to pay for the cost of building or remodeling a home.
Whereas a lender pays out the full amount of the mortgage to the home’s seller upon closing where a regular mortgage is involved, a construction loan is typically paid out in a series of advances as construction progresses. For instance, the lender may disburse a portion of the funding upon completion of the foundation, another bit after the rough framing is completed, and so on.
During construction, you may not be responsible for any payments at all, but most construction loans require you to make interest-only payments based on the funds that have been disbursed. When the project is complete, you’ll make a large balloon payment to pay off the loan. For most borrowers, that means converting from a short-term construction loan to a long-term mortgage once the house is built.
How you make that switch depends on whether the construction loan is a one-time-close loan or a two-time-close loan.