Financing a New Home Build? Here’s Everything You Need to Know About Construction Loans
When starting out the process of building a new home, there are so many different things to think about and organise. Finance is one of those things that people generally consider one of the ‘boring’ and ‘hard’ parts – but it doesn’t have to be! Equip yourself with the knowledge you need to understand how your Construction Loan works and soon you will confidently be charging into the ‘fun’ stuff with no confusion lingering about money!
Firstly, a Construction loan is a very specific type of loan structured for people who are building a new home or doing major renovations on an existing home. For starters, you should do some research into the current offerings from lenders, or contact your Mortgage Broker, if you choose to use one (for more information on Mortgage Brokers, see our blog post ‘Mortgage Brokers – Who, What and Why?’).
As Construction Loans are very different to standing established home loans, you will need to provide additional information as a part of the application process. As well as the usual proof of income and credit history requirement, you may have to provide things like:
- Copy of your Building Contract
- Building Plans
- Your Builders Licencing and Insurances
- Quotations of additional costs not including the build – ie landscaping, pools etc.
You should familiarise yourself with the structure. Fundamentally, construction loans work by progressively releasing the funds to your builder in ‘progress payments’ or ‘drawdowns’ at scheduled intervals of the build. This means that at major milestones during the build process, usually minimum five, but can be up to twelve or more (this will be stated in your Building Contract)– like when the slab goes down, once framing goes up etc an invoice is raised to the lender, who then will pay for the works that have been completed thus far. Some lenders will even send a representative to the site to ensure that the works have been completed satisfactorily prior to paying the invoice.
Another thing to note when finding the right loan for you is how interest is calculated. As your total approval amount will be a lot less than is owing during the build – for instance, say you have been approved for a total of $400 000 in finance, but you are only up to the second progress claim and have only spent $90 000, you may only be charged interest on this $90 000 as opposed to the full amount that the bank is holding for you.
Take into consideration the fee structure on your loan options as well. Some fees that you could come across are additional fees for the additional administration time it takes to process the series of progress claims, and costs for having someone visiting the site at regular intervals.
In the completion of the build once the final invoice has been paid then your loan amount will be at its total. Options to be aware of at this point are if you had been paying ‘interest only’ if you are now obligated to pay ‘principal plus interest’. Some people only take advantage of this ‘Construction Loan’ for the duration of the build, and once complete may refinance to a standard mortgage with potentially a more competitive interest rate and more flexible options for repayments and access to redraw.
Knowing this information and discussing with your lender or other financial professional can really help to clear the haze that often surrounds this topic. Finance doesn’t need to be hard, and once you have it in place you can move on to focusing on all the other exciting things to cross off your ‘dream home’ to-do list!