What you need to know about construction loans

29 June 2020

Construction loans

Construction loans are necessary when you want to build a new home rather than buy an established place. This type of loan differs from a standard home loan in a couple of ways.

  • You need more documentation to apply for a construction loan.
  • The two-step financing process.

We’ll now look at both of these key differences in turn.


In addition to standard information like your employment and income details, you’ll need to provide the following documents for a construction loan application:

  • a copy of your building contact.
  • a copy of your construction plans.
  • council approvals for your building work.
  • evidence of your builder’s current registration and insurance coverage.

As with any home loan application, if you have a good credit history you’ll be eligible for the best possible loan terms and conditions from your lender.

The two-step financing process

Step 1 of a construction loan finances the purchase of your land. Step 2 finances the progressive building of your home as various construction milestones are reached. The land and construction loans can be separate, or they can be bundled together for the full amount.

You need to start making repayments on your land loan as soon as you buy it. You’ll be required to repay both the principal (the amount you’ve borrowed to buy the land) plus interest.

Then as your home is being built, you progressively draw down pre-approved funds to pay for its construction. There are usually five “draw down” stages.

You should inspect your home’s construction as each milestone stage is completed before authorising any payments to be made to your builder. Your lender will also usually inspect your home at each stage before releasing any progressive funds.

Repayments on a construction loan are usually interest-only while your home is being built. When your home is completed, repayments then revert to a standard principal and interest arrangement.

Before you take out a construction loan

You should negotiate a fixed-price contract with their builder if you can before you take out a construction loan. A fixed-price contract will protect you if there are any unexpected cost blowouts while your home is being built.

However, in some circumstances, your builder might not be able to give you a fixed-price contract. They might provide you with an estimate instead that allows for changes in material and labour costs.

Many lenders offer ‘cost plus/variable’ construction loans to cater for that situation. However, you still need to be able to convince a lender of your ability to repay the full ‘cost plus/variable’ amount (in case it’s needed) before you will get your loan approved.

After you take out a construction loan

Avoid making changes to your building contract once you’ve had your construction loan approved. If you do, your loan approval may have to be reassessed. This can be time-consuming and it can also delay your home-building process.

3 tips for choosing a construction loan

Tip 1: Research the market and compare construction loans from different lenders.

Interest will be the biggest single cost over the life of a construction loan, as it is with any loan. There will usually be two interest rates on any lender’s product: a nominal (or advertised) interest rate and a comparison rate. The comparison interest rate is the interest rate plus any additional fees or charges. The nominal (or advertised) rate doesn’t include those additional charges. The comparison rate is therefore higher, but it reflects the true cost of the loan.

It’s a legal requirement for lenders in Australia to provide you with the comparison interest rate on their loan products. Always use the comparison rate when comparing loan products from different lenders.

Tip 2: Get your construction loan limit approved before designing your home.

Your home should then be designed so that all costs fall within this pre-approved limit.

Tip 3: Include an amount for contingencies and additional expenses in the approved loan amount.

Unexpected expenses can crop up during the building of any home. For example, your builder may come across a rock when levelling your land. If they do, that will increase your excavation costs.

How we can help

Taking out a construction loan is a major financial decision. The market is highly competitive and there is a vast range of products on offer. At Wisebuy Investment Group in Newcastle, our experienced and licensed brokers can help you to find the right construction loan.

We can also help you with your application.

Contact us today for an obligation-free chat! We’ll take the time to understand your individual situation before providing you with appropriate advice. Our focus will be on finding the right loan for your needs from over 60 Australian lenders.

And best of all, our service is free!