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What is a construction loan?
A construction home loan is a type of home loan designed for people who are building a home or doing major renovations, as opposed to buying an established property. It has a different loan structure to home loans designed for people buying an existing home.
A construction loan most commonly has a ‘progressive drawdown’. This means you may receive instalments of the loan amount at various stages of construction, rather than receiving it all at once at the start. You generally only pay interest on the amount that is drawn down, as opposed to on the whole loan amount. Some lenders may also ask you to make contributions to the loan from your own savings, or to provide evidence that you will be able to afford the full loan amount.
A number of lenders offer construction loans that are interest-only during the construction period and then revert to a standard principal and interest loan once your home has been fully built.
Of course, a construction loan is just one potential source of funding for your project. You may also be eligible for government grants and concessions, particularly if you are a first home buyer, for example. Or, for renovators, there could be the option to refinance an existing mortgage or take out a personal loan. It could be a wise idea to seek professional financial advice when considering your options.
How to get a construction loan
Getting approved for a construction loan is generally a different process to applying for a standard home loan to buy an existing home.
You’ll typically need to provide the lender with documents, including council-approved plans and building specifications, a copy of your fixed-price building contract with a licensed builder, and any applicable insurance documentation (such as a copy of your builder’s public liability insurance and builder’s risk insurance). You’ll also be subject to normal lending criteria, meaning you will most likely need to provide details of your income and expenses and your credit score could prove an important factor.
A property appraiser will then typically estimate the expected value of the property when completed. This is because when you apply for a construction loan, the lender may consider the expected value of the property upon completion of construction, as well as the total amount required to borrow in order to pay the builder. The lender will typically also require further property valuations and inspections during the project.
If your loan is approved, your lender will give you a loan offer. You will then have to make a deposit, as you would with most other types of home loans. This acts as a form of security at this stage of construction. A larger deposit can help to convince your lender that you are a less risky borrower. You’ll typically need at least a 5% deposit, keeping in mind that you may have to pay lender’s mortgage insurance if your deposit is less than 20%.
For each stage of the construction process, you’ll usually have to confirm that the work has been done, complete and sign a drawdown request form, and send it to the construction department of your lender. Your lender may also request an invoice from your builder for the cost of the work done.
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Author: Nina Tovey, Editor-in-Chief
As Canstar’s Editor-in-Chief, Nina heads up a team of talented journalists committed to helping empower consumers to take greater control of their finances. Previously Nina founded her own agency where she provided content and communications support to clients around Australia for eight years. She also spent four years as the PR Manager for American Express Australia, and has worked at a Brisbane communications agency where she supported dozens of clients, including Sunsuper and Suncorp.
Nina has ghostwritten dozens of opinion pieces for publications including The Australian and has been interviewed on finance topics by the Herald Sun and the Sydney Morning Herald. When she’s not dreaming up ways to put a fresh spin on finance, she’s taking her own advice by trying to pay her house off as quickly as possible and raising two money-savvy kids.
Nina has a Bachelor of Journalism and a Bachelor of Arts with a double major in English Literature from the University of Queensland. She’s also an experienced presenter, and has hosted numerous events and YouTube series.
You can follow her on Instagram or Twitter, or Canstar on Facebook.
You can also read more about Canstar’s editorial team and our robust fact-checking process.
Author: Josh Sale, Home Loans Ratings Manager
As Canstar’s Ratings Manager, Josh Sale is responsible for the methodology and delivery of Canstar’s Home Loan Star Ratings and Awards. With tertiary qualifications in economics and finance, Josh has worked behind the scenes for the last five years to develop Star Ratings and Awards that help connect consumers with the right home loan for them.
Josh is passionate about helping consumers get hands-on with their home loans, always reminding home buyers that finding the right loan can be as important for your finances as negotiating a fair property purchase price. Josh has been interviewed by media outlets such as the Australian Financial Review, news.com.au and Money Magazine, discussing topics including home loan equity and wider finance trends.
When it comes to Josh’s own property journey, the home loans expert once bought two houses in the same transaction when he ensured the cubby house his daughter loved was listed on the purchase contract for his new home. You can follow Josh on LinkedIn, and Canstar on Twitter and Facebook.
This content was reviewed by Digital Editor Amanda Horswill and Sub-Editor Tom Letts as part of our fact-checking process.
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This advice is general and has not taken into account your objectives, financial situation or needs. Consider whether this advice is right for you.