A construction loan carries risks that a standard home loan does not, and most of them come from timing, cost changes and the builder's progress. Knowing where they sit before you apply lets you plan for them rather than react to them.
This article is for Gungahlin buyers who have land or are about to buy it, and who are deciding whether and how to fund a build. If you are still working out how much you can borrow, start with our page on borrowing capacity.
What Are the Main Risks of a Construction Loan?
The main risks are cost overruns, delays, valuation shortfalls and paying interest on a loan while you also pay rent or another mortgage. Each one can be planned for, but only if you identify it before the build starts.
Unlike a standard loan, funds are released in stages as work is completed. That structure protects you and the lender, but it also means a problem at one stage can hold up the next. Our construction loans page explains how lenders approach this type of lending.
How Does a Construction Draw Schedule Work?
A construction draw schedule releases your loan in stages as the builder completes set parts of the build, such as slab, frame, lock-up and completion. The lender usually arranges a progress inspection before each payment is released.
Interest is generally charged only on the amount drawn down, so repayments are lower early on and rise as more of the loan is used. Some lenders charge a progressive drawing fee for each stage, so ask about this cost when comparing options. The trade-off is that a stage can be delayed if the inspection or paperwork is not ready, and your builder may be waiting on that payment.
Fixed Price or Cost Plus: Which Contract Carries More Risk?
A cost plus contract carries more risk for the borrower because the final price is not set at signing. A fixed price building contract gives more certainty, though it may still allow variations and adjustments for certain items.
With a cost plus contract, the builder charges actual costs plus a margin, so the total can rise if materials or labour costs increase. Check the lender's policy on cost plus contracts before you commit to one. Some lenders require a fixed price contract or will not accept cost plus. With a fixed price contract, read what is excluded, because site costs, upgrades and variations can still add to the total. Ask your builder for a written list of allowances before you apply.
Why Do Delays Matter for Your Loan?
Delays matter because they extend the time you pay interest on drawn funds and may push you past approval conditions. Confirm your lender's approval validity and start-of-construction requirements. In the ACT, also check the building and development covenant in your Crown lease and the timeframes it sets.
Delays can come from weather, supply issues, or waiting on a development approval or building approval from the ACT planning authority or your certifier. In the ACT, check what approvals your plans need before you apply for finance, as changes to plans can mean changes to the loan amount. Build some buffer into your budget for extra rent or holding costs.
Ready to get started?
Book a chat with a Mortgage Broker at True North Mortgage Solutions today.
How Can You Avoid a Valuation Shortfall on a Build?
You can avoid a valuation shortfall by confirming early how the lender will value your finished home against the total cost of land and construction. If the value comes in lower than the cost, you may need to cover the difference with extra cash.
Ask your lender or broker how it values the property, for example on an 'as if complete' basis from the plans and contract, and how it values each progress stage. A custom design with high-end finishes can cost more to build than it adds in valuation. Ask your broker to talk through how lenders assess plans before you commit to a design.
What Does a Budget Buffer Look Like in Practice?
A buffer is money set aside outside your loan to cover variations, delays and the unexpected, and the right amount depends on your contract and build.
Consider a Gungahlin couple building a new home on a block they already own, using a fixed price contract. Their builder asks for a variation to the driveway and drainage after site works begin. They had set aside a cash buffer separate from the loan, so they paid the variation without asking the lender to increase the loan amount. Increasing the loan for a variation may need lender approval and could delay the next stage, depending on the lender. The build continued on schedule and the final draw was released as planned.
The trade-off is that cash held as a buffer is not working for you elsewhere, such as reducing another debt. Your broker can help you weigh this up.
What Happens to Repayments During the Build?
During the build, many lenders offer interest-only repayment options on the drawn balance, and repayments then rise as more funds are released. Once the build finishes, the loan usually moves to principal and interest.
As an illustration only, at an example rate of 6.75% p.a., a drawn balance of $400,000 would cost about $2,250 per month in interest alone. That figure is illustrative and would be lower earlier in the build when less is drawn. Your actual rate will depend on your deposit and lender. Some lenders offer a construction to permanent loan that converts to a standard loan at completion. Ask whether any reassessment or fee applies, and note that the post-build rate may differ from the build-stage rate. You can compare the structures with our home loans team.
Do Builder and Payment Risks Affect You?
Yes. If your builder runs into financial trouble, you may have a part-finished home and funds already paid out. Using a registered builder and checking their licence and insurance reduces this risk, though it does not remove it.
It is also worth confirming that your builder pays sub-contractors, such as plumbers and electricians, and asking what protections apply to your contract. Seek legal advice on your contract before signing.
Getting the Structure Right From the Start
A broker can compare construction loan options from lenders across Australia, and can match the loan structure to your contract type, build timeline and buffer. Gungahlin buyers can speak to our local team through our Gungahlin mortgage broker page. First-time builders may also like our first home buyers information.
Call one of our team or book an appointment at a time that works for you.
Frequently Asked Questions
What is the biggest risk with a construction loan?
Cost overruns and delays are among the most common risks. A cash buffer outside the loan and a clear contract help you manage both.
Do you pay interest on the full construction loan from day one?
Generally no. Interest is usually charged only on the amount drawn down, so repayments rise as each stage is paid.
Is a fixed price contract safer than a cost plus contract?
A fixed price contract gives more certainty about the total cost. You should still check for exclusions and variations.
Can a construction loan convert to a standard home loan?
Some lenders offer a construction to permanent loan that converts to a standard loan after completion. Ask whether any reassessment or fee applies, as the rate after the build may differ from the build-stage rate.
