Construction Loans and Renovation Loans

Construction Loan Process

Construction loans work differently from home loans because of how the funds are given out. Home loans provide a lump sum upfront, but construction loans release funds in stages as the building progresses. At key steps, like laying the foundation or finishing the project, the builder sends an invoice, and the lender releases funds after approval. You only pay interest on the funds used, not the total loan, which can save on interest costs. These loans are usually interest-only until fully drawn.

Lenders keep a close eye on renovation progress, unlike with standard property purchases. They inspect the work before approving payments, ensuring it meets standards, which can be reassuring.

Applying for a Renovation Loan

Getting a renovation loan is different from a home loan. First, you'll need detailed plans from a reputable builder, which you present to your lender. The lender appoints a valuer to assess these plans and determine the property's On Completion Value. This helps set your loan amount and includes a timeline for construction and payment schedules. You'll also need quotes for materials and special installations.

Once you get a loan offer, pay a deposit to secure the funds. At each stage, you'll sign a request with your lender to approve the work and release payment.

The Risks of Renovating

One risk is overcapitalising, where you spend more on improvements than the property's value increases. It's important to consider both the construction loan and any existing debts, like your mortgage. Compare similar local properties to gauge your home's value post-renovation. For example, if you bought your house for $650,000, owe $575,000 on your mortgage, and have a $250,000 construction loan, the On Completion Value should be over $900,000 to avoid overcapitalising.

Talk to your broker today to understand more about construction and renovation loans. Paul@bfdfinance.com