Lenders assess a construction loan on the building contract, the approvals and the builder as well as on your income. Gaps in any of these can stall a construction loan application.
This article is for people in Mandurah and across Australia who are close to signing a building contract and want to know what a lender will need first. A construction loan works differently from a standard home loan, so the order in which you do things matters.
What Do Lenders Require for a Construction Loan?
Lenders generally require a signed building contract, approved plans, council approval and a licensed builder, alongside the usual income and expense checks. Exact requirements differ between lenders, so confirm them before you commit to a contract.
The lender is lending against a home that does not exist yet. That is why it wants to see the full scope of work, the total cost and proof the project can legally proceed. A builder's quote on its own is rarely enough. Lenders usually want a formal contract with a clear price, a scope of works and a payment schedule.
Your borrowing capacity is assessed in the same way as for other home loans, including your income, debts and living expenses. Check this early, because it sets the budget your builder works to.
Mistake One: Signing a Contract Before Checking Finance
Signing a building contract before your finance is assessed can leave you committed to a build you cannot fund. Getting a lender's view of your borrowing capacity first protects your deposit and your timeline.
Consider a couple in Mandurah who find a builder they like, sign a contract and pay a deposit. When they apply for finance, the lender's assessment of their borrowing capacity is lower than the contract price. They have to cut the design, find extra savings or walk away from a contract they have already paid for.
The solution is to speak to a broker before signing. In this scenario, a broker reviews their income and debts, checks the likely loan amount against the draft contract price, and identifies the gap while the contract is still negotiable. The couple adjust the design and inclusions with the builder, then sign a contract that fits their lending. The outcome is a loan application that matches the contract, with no surprises after the deposit is paid.
The trade-off is time. Getting finance sorted first can add some time before you sign, but it can help you avoid having to renegotiate a contract afterwards.
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How Does a Construction Draw Schedule Work?
A construction draw schedule releases your loan in stages as each part of the build is completed, rather than as a single lump sum. Interest is normally charged only on the amount drawn so far.
The stages commonly include slab, frame, lock-up, fit-out and completion, although your contract sets the exact structure. Before each payment, the lender usually arranges a progress inspection to confirm the work is done. The builder then invoices, and the lender pays that stage directly or through you.
This is why repayments start small and grow. Early on, you pay interest on a small balance. By the final stage, you are paying interest on the full amount. Many lenders offer interest-only repayments during construction, so your repayments are lower while you build. Once construction ends, the loan generally converts to principal and interest, which raises your repayments.
As an illustration only, at an example rate of 6.75% p.a., interest on a $400,000 balance is $27,000 a year on an interest-only basis, or about $2,250 a month. Interest on a $200,000 balance at the same rate is about $1,125 a month. Your actual rate depends on your lender and deposit. Use a repayment calculator to test your own numbers.
Some lenders charge a fee for each progress payment, often called a progressive drawing fee. Ask about this up front, because it adds to the cost of the loan.
Mistake Two: Overlooking Approvals and Builder Details
Starting a loan application before council approval and builder details are ready is a common cause of delay. Lenders want to see approved plans and a licensed builder before they will approve funding.
In Western Australia, you generally need council approval for your plans before work begins. Lenders typically ask for a copy, along with the builder's registration details and insurance. If you use an owner builder arrangement, lenders can be more cautious and may ask for more documents, and some do not offer this type of loan at all.
It also helps to know which contract type you are signing. A fixed price building contract sets the cost in advance, although variations and some allowances can still change the final price. A cost plus contract bases the price on actual costs, which gives you less certainty. Lenders often prefer fixed price contracts because the cost is more certain, but check your lender's policy.
Is a House and Land Package Different for Finance?
A house and land package is usually funded as a land purchase followed by a construction loan, so you deal with two stages of lending in one application. Your broker can structure both together.
In a house and land package, the land settles first, and construction then draws down in stages. Lenders usually calculate your deposit and loan-to-value ratio on the combined land and build value. They use the lower of the valuation or the contract price. If the land is valued below the contract price, you may need a larger deposit or pay Lenders Mortgage Insurance. If you already own the land outright, many lenders can count its equity towards your deposit.
The main risk is timing. If the land settles but building approvals are delayed, you may carry interest on the land loan while nothing is being built. Check the contract for any deadline to start building. Some contracts require you to commence building within a set period, and missing it can create problems.
Mistake Three: Not Planning for Costs Outside the Contract
Many building contracts do not cover everything, so you should plan for costs such as landscaping, fencing, window coverings and variations. A buffer helps you avoid being short when the build finishes.
Costs outside the contract can appear when you least expect them. Site conditions can add costs, and changes you make mid-build are usually charged as variations. If you pay for these from savings, you need that money available. If you want to include them in the loan, discuss this with your broker before the application is lodged, since lenders usually assess the amount at the start.
If you already own your home and plan to build, you may have other ways to fund the project. Your broker can compare your options, including refinancing to release equity, depending on your lender and circumstances.
The cost of borrowing more is higher repayments over a longer period, so weigh up what you really need.
Talk to a Broker Before You Sign Anything
A broker can review your situation and explain the construction loan options available from banks and lenders across Australia. They can also check whether your contract and approvals meet lender requirements before you lodge anything. If you are a first home buyer, this is especially useful, since it is your first time working through these steps.
Call one of our team or book an appointment at a time that works for you.
Frequently Asked Questions
What do lenders need for a construction loan?
Lenders generally need a signed building contract, approved plans, council approval and a licensed builder, along with standard income and expense checks. Requirements vary between lenders, so check before you sign.
How does a construction draw schedule work?
The loan is released in stages as each part of the build is completed, usually after a progress inspection. Interest is normally charged only on the amount drawn so far.
Do lenders prefer fixed price building contracts?
Lenders often prefer fixed price contracts because the cost is more certain, but check your lender's policy. Variations and some allowances can still change the final price.
Should I speak to a broker before signing a building contract?
Yes. A broker can check your borrowing capacity against the contract price while changes are still possible. This helps avoid a funding gap after you have paid a deposit.
