Final answer:
A short-term higher interest loan used for construction costs, called a construction loan, is used to fund the construction of a property and is paid off with a permanent mortgage loan. Construction loans have higher interest rates compared to traditional mortgage loans because they are riskier and temporary in nature.
Step-by-step explanation:
A short-term higher interest loan used for construction costs is typically referred to as a construction loan. Its purpose is to provide funding for the construction of a property, which is then paid off with a permanent mortgage loan once the construction is complete. Construction loans usually come with higher interest rates compared to traditional mortgage loans because they are considered riskier investments for lenders.
The higher interest rate is justified by the fact that construction loans are considered short-term and temporary, typically lasting only during the construction phase. The property being constructed serves as collateral for the loan, but until it is completed, the lender is taking on more risk. Additionally, construction loans often involve disbursements in stages as the construction progresses, which adds complexity and potential risk for the lender.
Overall, the higher interest rate on construction loans helps compensate lenders for the increased risk and unique characteristics associated with financing construction projects.