How do ‘Construction Loans’ work?

When building a new home your finance needs are different to buying an established property or a completed brand new property. At FHBA, we understand that constructing a brand new home is a popular option for first home buyers looking to take advantage of the state government grants and concessions that are available. 

Disclaimer: Please note our website, including this article, is in no shape or form designed to replace the need to obtain professional advice from experts such as Mortgage Brokers. We always recommend you speak to a licensed professional. Please visit our website’s Terms & Conditions for more information. To speak to a licensed Mortgage Broker please click here.

What is a ‘Construction Loan’?

A construction loan is a type of home loan designed for first home buyers who are building a home as opposed to buying an already complete or established property. It has a different loan structure to home loans designed for people buying an existing home.

A construction loan has a progressive payment system whereby the loan amount is increased as needed to pay for the construction progress payments. The good news is that similar interest rates, features and deposit requirements apply for most loans, including construction loans.

How is a construction loan different to a standard home loan?

A standard residential loan has one loan which covers the entire amount of the loan; however, a construction loan is different as it has two components to the loan, i.e. the land which settles first and then the building/construction component. One of the key components for getting approval for a construction loan is your ability to service the loan. All lenders need to assess your ability to service:

  • the loan on the land component (if it is a split contract between the land and construction)
  • the construction component as it’s being drawn down for progress payments

The lender will conduct a valuation for the land initially and then base their initial construction valuation based on the building contract & plans. Following completion of the property, the lender will conduct a final valuation to ensure everything that was included in the building contract has been completed. This is different to an established property in that only one valuation is required.

The other major difference is that almost every lender (including those on the FHBA Mortgages panel) will allow first home buyers to choose interest only payments (without no questions asked) for the first year of the loan whilst the first home is being constructed. This provides convenience for those who are currently having to make ongoing rent payments whilst they wait for their house to be completed.

Illustration of a house being constructed at the ‘Framing’ stage

How do construction loans work?

Whilst you can apply for the land and construction component in go, the first step is to settle on the block of land and therefore begin with a land loan only. If you have selected your builder or the house and land package you want to proceed with the next step is to ensure you have approval for the construction component. The lender will look at your first home plans and building contract to approve this component.

Once a construction loan has been approved and the construction of the property is underway, the lender will make progress payments throughout the various stages/milestones of construction. Most lenders will make progress payments once the following construction steps have been completed:

  1. The deposit – usually 5%
  2. The slab or base stage – usually 15%
  3. Frame stage – usually 20%
  4. Lockup stage – usually 20%
  5. Fit-out stage – usually 30%
  6. Practical completion stage – usually 10% (the final valuation is also completed at this stage)

Some lenders may choose to do valuations at each stage to ensure they are only releasing the funds to the builder once the job is complete – providing first home buyers with security.

Are there any other types of construction loans?

Whilst the majority of new house + land transactions use the progress payments method, some builders do provide the option of allowing you to settle on the house and land once construction is complete (off-the-plan purchases). There are still a few lenders that provide this option however, it is less common because the developer/builder effectively takes the majority of the risk, i.e. it is the builder that pays all the building costs upfront and the holding cost of owning the land. The loan is treated the same as a standard residential loan because the first home buyer pays for the total cost at settlement.

How do I get more information or apply for a construction loan?

Right here! Our specialist first home buyer mortgage broking service called FHBA Mortgages is a complimentary service which assists first home buyers every day with all their first home loan needs, regardless of whether you are constructing your first home or buying an established new/old property.

It gets better though, you can also find your brand new dream home that you are looking to build through our complimentary & exclusive new homes service for first home buyers, i.e. FHBA New Homes. We help you explore a range of property options from different developers to find your first home. Then we help you secure your choice and guide you through the entire journey until you have moved into your dream home!

You can even start searching for suitable house and land packages on our website, click here to get started!

To get started or book your complimentary consultation with an expert FHBA Coach, simply complete the form below.

Written By,

Taj Singh

FHBA Co-Founder


Disclaimer: The information on our website including this page is general in nature and should be solely relied upon. The advertised rates above were true and correct at the time of the publication. The rates do not take into account other fees and charges which you should also consider. The credit license responsible for the mortgage service offered to clients is Mortgage Australia Group Pty Ltd, Australian Credit License (ACL) number 377294, Australian Business Number (ABN) 99 091 941 749. Mortgage Australia Group Pty Ltd is a member of the Mortgage & Finance Association of Australia (MFAA). FHBA Pty Ltd is an authorised credit representative of Mortgage Australia Group Pty Ltd. You  should seek professional advice when obtaining finance and purchasing your first property. 

First Home Buyers Australia
First Home Buyers Australia

Australia’s leading organisation specialising in assisting first home buyers achieve the great Australian dream of property ownership.