How Do Construction Loans Work and What is Progressive Drawdown?

If you’re considering building your home, you’ll need to have a good working understanding of construction loans. Every year more than 5,500 Aussies use a construction loan to fund the building of a new home, and chances are you will too if you go down the path of building.

In some ways these loans are similar to average every day home loans, but there are key differences which you need to be aware of before you break ground.

What Is A Construction Loan and How Do They Work?

Construction loans are purpose-designed for people who are building their own home as opposed to buying an established property. They’ve got a different structure to a standard home loan and their purpose is to fund the build as it progresses.

To do this, construction loans have a ‘progressive drawdown’ – a feature that allows you to increase your borrowing or draw down the loan as needed to pay for construction progress payments.

Banks will require an official estimate of the value of home when it’s completed so that they can cap your borrowing at that amount. These loans are usually interest only for a limited period during the build and require an initial deposit equal to 5% of the total build cost.

How Does Progressive Drawdown Work?

Before construction begins, your builder will prepare a document outlining the total cost of the build and splitting it into stages. Usually your lender will assist with this process, as well as sending someone to verify that each stage of the build is progressing appropriately before releasing payments.

As each stage of your build begins your lender will release funds to cover your costs, after you present an invoice from your builder. Generally, the build will be split into the following stages:

1. Leveling the site, installing plumbing, building foundations: up to 10% of build cost.
2. Building your property’s frame and roofing: around 10-15% of total build cost.
3. Building external walls, doors, insulation and locking up: up to 35% of total build cost.
4. Fit out including shelving, kitchen, bathroom, lighting and electrical: 15-25% of total build cost.
5. Completion and finishing touches: 10-15% of total build cost.

In most cases once construction is complete your loan will revert to principal and interest repayments.

To apply for a construction loan, you’ll need a building contract, a building plan and quotations from contractors as well as everything you need to apply for a regular home loan like proof of income and employment.

Building a property is a great way to create the exact home that you want right down to the taps and tiles. A construction loan is the best way to get it done, so get in touch with your preferred lender to lock in your loan and you can get started on developing your dream home.