The Ultimate Guide to Construction Loans

Having specialised in construction loans for the better part of a decade, we’ve assisted in funding just about any situation you can think of. New Home Builds, Land and House, knock down rebuild, and also structural renovations.

The fact is, Construction loans are quite different from a traditional home loan, and in my experience, the more educated customers are on the construction process, the better the overall outcome. So with that in mind let’s get stuck into it.

What is a Construction Loan? That’s the obvious bit it’s a loan, for construction. How good – I think the more important question is why do we need a construction loan?

Building and construction is more risky – it always has been. There’s more that can go wrong; increase in materials cost, building overruns, builder’s going under mid build – and it’s because of this risk, that a specialised lending product exists. 

With risk being heightened, usually only “larger banks” will play in this space – typically your majors and some select “challenger banks”.

Whenever I’m describing home lending to customers, I will refer to 2 fundamental aspects. Serviceability and Valuations/Equity – for this construction article we are going to ignore servicing and assume it works. We need to discuss valuations, more importantly, this idea of an “on complete valuation”.

This type of valuation will determine what the property would be worth right this moment, assuming that the construction works had already been completed. It can also be referred to as a TOC (Tentative On Complete Valuation) or an As if Complete Valuation.

When building, you need that “on complete valuation” in order to support the necessary lending that you are seeking – all in the name of keeping your Loan to Value Ratio Metrics within lender policy.

Unique to construction loans, the lender will split up the LVR metrics into a Land Component, and then an “Improvements” Component which will be determined by the valuer as part of the “on complete valuation”. 

There are never any guarantees with a valuation, but that’s the same across all lending.

Some other important points to note about construction loans; 

– You will need a Fixed price build contract with your builder, that will include a Progress Payment Schedule that has to be approved by the valuer and lender (this is to avoid front heavy contracts, mitigating a very obvious risk).

– The lender will retain control of the construction funds, meaning that progress payments are made throughout the build

– If the overall construction has a component of customer funding in addition to bank funding – the customer contributions will always be required first, then the lender will take over with the progress payments.

– Everything needs to be council approved!

As always, If you have any further questions, please don’t hesitate to reach to out to someone from The Lending Alliance team: https://thelendingalliance.com.au/contact