Planning your new build and need to sort out the finances? The most common way to fund a new building project is through a Construction Home Loan. Read on to find out how Construction Loans work, what they are, how to get one and more!
Construction Loans vs Standard Home Loans
When building a new home securing finance for the build is one of the most important steps. Much like when buying a pre-built house, the finance needs to be approved beforehand allowing all parties to work within an agreed budget.
Construction Loans are structured differently to regular home loans. The key difference is that the bank would normally provide an amount based on the value of the property as it stands. But of course, with a new build there are no existing buildings to base this on.
Therefore the lender provides a Construction Loan based on a calculated value of the property. This calculation is provided by an approved Registered Property Valuer effectively providing an educated guess as to what the property will be worth at completion.
If you have plenty of existing equity in the land you plan to build on or other assets you can choose to borrow the amount that you need for your new build without the need for a Construction Loan. This effectively means you are using other assets as collateral instead of the final value of the new house.
This method provides slightly more freedom in the build process by allowing you to borrow a lump sum at the beginning of the build. This can be particularly useful if you plan to Project Manage to undertake parts of the build yourself. However, it does mean you are immediately paying interest on the full amount.
How To Get A Construction Loan
Much like an ordinary home loan application, a Construction Loan requires certain criteria to be met in order for the application to be approved. The first step is to get a registered valuation to give your lender some figures to work with.
To calculate the estimated value of the completed property Valuers take into account things like the purchase price of the section, the geographical location, nearby house prices and the details included in the construction plans; including square meterage, fit-out specs and standard of finish. This may include specific details such as the types of materials used for things like showers, kitchen benches and splashbacks, driveways and landscaping or additional features.
Your lender will take both the valuation and construction costs into account when considering the funds it will make available to you for your Construction Loan. Other elements included in the lending decision making process will likely include your deposit amount, available income sources, current Loan To Value Ratios (LVR), the existence of a fixed price contract and Master Builders Guarantee or a Certified Builders Guarantee.
Construction Loan Checklist
Get Valuation. An approved Registered Property Valuer will need to appraise the property and review the plans to gain an estimate of the final completion value of the property.
Submit Plans. You will need to provide the bank with a full set of professionally produced construction plans for the intended build project.
Approve Loan Offer. Signing off on the loan documents will get the project underway. After you approve the loan offer for the property the bank will expect you to use your existing equity as a deposit on the build before it begins making Progress Payments.
How Does A Construction Home Loan Work in NZ?
In NZ, Construction Loans are usually drawn down in the form of Progress Payments. These payments are paid in instalments throughout the course of the build process. An example Progress Payment Schedule in NZ might be:
Base Down Stage. Foundations (concrete slab or otherwise) and site preparation (underground connections such as drainage, plumbing and electrical systems).
Frame Up. The competition of the basic framing for the walls and roof along with pre-wiring and pre-plumbing requirements. This includes partial brickwork and the installation of the roof trusses.
Lock Up. The house is closed into the point where it can be locked. This includes windows, external doors, guttering, roofing and external cladding. Sometimes this stage may be split into ‘Roof on’ and ‘Lock Up’ stages.
Fixing And Fitting. This involves all of the internal features of your home including plastering, gib, skirting boards/architraves, internal doors, painting, and all plumbing and electrical requirements. The fixing and fitting stage duration depends greatly on the availability of individual contractors and sourcing of products, but as a general guide, this stage will take around six to eight weeks.
Practical Completion. The home is complete and usually awaiting Code of Compliance sign-off by the local Council. This stage includes installation of the kitchen, tiles, floor coverings, the final electrical and plumbing fit-off and cleaning.
Handover. When all payments are complete and you are given the keys to your new home. This should happen immediately after receiving the official Code of Compliance certification from the Council and when the builder has confirmed the final payment has been received.
As each of the stages are completed Progress Payments will fall due and are usually payable within 7 days. The Bank will pay the invoices (issued by your builder) on your behalf directly to the builder, drawing down more of the Construction Loan each time.
Construction Loan Interest Payments
Construction homes loans work differently to conventional Home Loans as throughout the Construction Loan period you only pay interest on the amount of the loan that has been drawn down so far.
A Construction Loan operates as an ‘Interest Only’ loan requiring no Principal repayments until the final drawdown of the loan, or 12 months from the initial drawdown whichever occurs first. In some cases interest payments can be added to the loan amount provided the final mount does not exceed current Loan to Value ratios and existing loan conditions.
Construction Loans will almost always be set up using a Variable (Floating) Interest Rate until the full amount has been drawn down at which time the full loan can then be fixed for the desired terms. Most banks require you to use any existing equity before they begin releasing the Construction Loan Progress Payments.
Loan To Value Ratios For New Builds
Understanding Loan to Value Ratios (LVR’s) is just as important when applying for a Construction loan as any other Home Loan. The LVR is the amount of your loan compared to the value of your property.
Calculating Your LVR
To calculate your LVR, divide the amount of the loan by the completed value of your property.
For example, if the property is worth $650,000 and you have a deposit of $150,000, the LVR will be 76.9%.
($650,000-$150,000)÷$650,000 = 76.9%
The good news is for Construction Loans the current LVR’s carry a maximum of 80% (much higher than the LVR’s for ordinary home purchases).
For more information on the ins and outs of Construction loans in NZ, it is best to discuss the finer details with your preferred lender. For a guide to the steps of building a new house see here.