Freddie Mac Guidelines: Two-Time Close Construction Financing

What Is a Two-Time Close Transaction

A Two-Time Close transaction involves two separate loan closings for construction projects. First, you get interim construction financing to build or renovate your home. Then, once construction is complete, you close on permanent financing that pays off the construction loan.

This differs from a one-time close construction loan, where both the construction and permanent financing are combined into a single loan document from the start.

Say you own land and want to build a custom home. You'd first close on a construction loan to fund the building process. After construction is finished, you'd close on a permanent mortgage that replaces the construction loan. Each closing has its own set of loan documents, notes, and security instruments.

How the Permanent Loan Must Be Structured

The permanent financing in a Two-Time Close transaction must be classified as either a "no cash-out" refinance or a cash-out refinance. It cannot be treated as a purchase loan, even though you're financing a newly constructed home.

For "no cash-out" refinance treatment, the permanent loan proceeds can only pay off the construction loan and certain qualifying liens. You can pay off junior liens secured by the property, but only if those liens were used entirely for construction or renovation of the subject property.

If you paid for construction costs out of pocket or with unsecured debt, getting reimbursed for those expenses counts as cash-out. The threshold is $2,000 or 1% of the loan amount, whichever is greater. Anything above that threshold makes it a cash-out refinance.

For example, if your permanent loan is $400,000 and you want $3,000 back for materials you paid for personally, this would be a cash-out refinance because $3,000 exceeds 1% of $400,000.

Land Ownership Requirements

At least one borrower must have owned the land for six months or more before the permanent loan closes. This seasoning requirement prevents property flipping schemes where someone quickly buys land, builds, and refinances for profit.

The six-month period runs from when you took title to the land until the "Effective Date of Permanent Financing" - essentially when your permanent loan closes.

There's an important exception to this rule. If you inherited the land or received it through a legal proceeding like divorce, you don't need to meet the six-month requirement. The loan file must contain documentation proving the inheritance or legal award, such as probate court orders or divorce decrees.

Appraisal Requirements for Two-Time Close Loans

The lender must order an appraisal with both interior and exterior inspection of the completed property. This appraisal must include an "as completed" value - meaning the appraiser evaluates what the property will be worth once all planned improvements are finished.

The appraiser needs access to detailed construction plans and specifications to determine this completed value. The lender is responsible for providing all required appraisal information per Fannie Mae's appraisal guidelines [[Topic 5600]].

This creates a timing challenge. The appraisal typically happens before construction is complete, so the appraiser must project the finished value based on plans rather than seeing the actual completed work.

Documentation Requirements

The loan file must contain separate loan documents for both the construction phase and permanent phase. The permanent financing documents must use Fannie Mae's Uniform Instruments as specified in [[Chapter 4101]].

You'll need to provide documentation showing how construction loan proceeds were used. If you're claiming "no cash-out" treatment, the file must prove that any junior liens being paid off were used entirely for construction or renovation.

For the land ownership requirement, you'll need title documentation showing when you acquired the property. If claiming the inheritance or legal award exception, provide court orders, probate documents, or divorce decrees.

Common Complications and Gotchas

Cash-out refinance Two-Time Close loans cannot be secured by manufactured homes. If you're building or renovating a manufactured home, you must structure the permanent loan as "no cash-out" refinance.

The land seasoning requirement can trip up borrowers who recently purchased land specifically for construction. If you bought land five months ago intending to build immediately, you'll need to wait until you've owned it for six months before closing on permanent financing.

Mixed funding sources create documentation headaches. If you used the construction loan for some costs but paid others out of pocket, tracking which expenses qualify for reimbursement becomes complex. Keep detailed records of all construction-related expenses and their funding sources.

Appraisal timing issues can delay closing. Since the appraisal must show completed value but often happens before construction finishes, any significant changes to plans or specifications may require a new appraisal.

The "no cash-out" versus cash-out determination affects loan pricing and requirements. Cash-out refinances typically have higher rates and stricter qualification standards, so understanding which category your loan falls into matters for planning purposes.

References

For the official guidelines, see 4602.3: Two-Time Close transactions in the Fannie Mae Selling Guide.