What Makes Construction Loans Different?
Unlike a standard home loan where you receive a lump sum to purchase an existing property, construction loans are specifically designed to fund the building process. Construction loans work through a 'progressive drawdown' structure, where funds are released in stages as your home is built, rather than all at once.
This unique structure means you'll only pay interest on the funds that have been drawn down at each stage – not the entire loan amount from day one
The Two-Settlement Journey
Generally, you'll experience a two-settlement structure that's unique to land and construction:
Settlement 1: Land Purchase
- Settle on your land lot
- Begin your construction planning phase
- Start your countdown to commence building – Lenders generally require you to get started within 12 months.
Settlement 2: Construction Finance
- Activate your construction facility
- Fund your home build through progress payments
- Work towards completion and handover
This dual-settlement approach requires expertise in both land finance AND construction lending – something not all brokers understand.
How Progress Payments Work
Australian construction typically happens in 5-6 distinct stages, with payments made as each milestone is completed:
- Deposit (5%) - Paid when signing your building contract
- Slab/Foundation (15-20%) - Foundation poured and initial site works
- Frame Stage (15-20%) - Walls, roof structure, and basic framework erected
- Lockup Stage (20-35%) - External walls, windows, doors, and roof completed
- Fit-out/Fixing (20-30%) - Internal fittings, plumbing, electrical work
- Practical Completion (5-10%) - Final touches, handover, and occupancy certificate
At each stage, your builder will invoice you, and once you're satisfied the work is complete, your lender releases the next payment directly to the builder. This protects you by ensuring you only pay for completed work.
Understanding Your Repayments
During construction, you'll typically make interest-only payments on the amount drawn down. For example:
- After the slab stage (20% drawn): Interest only on 20% of your loan
- After frame stage (40% drawn): Interest only on 40% of your loan
- And so on...
Once construction is complete, your loan converts to standard principal and interest repayments, just like a regular mortgage.
Key Documentation You'll Need
Beyond standard loan documents, construction finance requires:
- Fixed-price building contract with your chosen builder
- Council-approved plans and specifications
- Builder's insurance certificates and registration
- Detailed cost breakdown for each construction stage
- Land title
Every lender will require a valuation on both your land and proposed construction.
Timeline Considerations
According to recent data, construction loan approval can take 2-4 weeks, though this varies by lender and complexity. Starting your finance preparation early means you could secure formal approval up to 6 months ahead - giving you complete peace of mind.
Key timing factors:
- Pre-approval validity: Usually 3-6 months
- Construction commencement: Must begin within 12 months of land settlement
- Build duration: Typically 6-12 months for a standard home in Australia
- Final loan term: Begins once construction completes
Common Challenges and How to Avoid Them
1. Cost Overruns Construction costs can blow out due to variations or unexpected issues. Always include a contingency buffer of 5-10% in your budget and discuss upfront with your lender how additional funds could be accessed if needed.
2. Delays Between Stages Weather, material shortages, or inspection delays can extend timelines. Factor this into your financial planning, especially if you're paying rent while building.
3. Inadequate Preparation Many buyers underestimate the documentation required. Start gathering paperwork early and work with a broker who specialises in construction finance.
4. Multiple Lender Requirements Construction loans often come with stricter lending criteria than standard mortgages, including higher deposits (typically 20% minimum) and stronger serviceability requirements.
Maximising Your Borrowing Power
Different lenders have varying policies and appetites for construction lending, with some offering more competitive rates or higher loan-to-value ratios. Working with a broker who has access to multiple lenders can help you:
- Compare options from 45+ lenders
- Access specialist construction loan products
- Potentially unlock extra borrowing capacity
- Find lenders familiar with similar developments
This could mean more dollars for those dream finishes at the Design Studio!
Ready to assess your construction loan capacity, just drop Mark an email – [email protected]